UNITED
STATES


SECURITIES
AND EXCHANGE COMMISSION





WASHINGTON,
D.C. 20549





FORM
10-K





ý ANNUAL REPORT PURSUANT
TO SECTION 13 OR 15(d) OF


THE
SECURITIES EXCHANGE ACT OF 1934





FOR
THE FISCAL YEAR ENDED DECEMBER 31, 2008





OR





o TRANSITION REPORT
PURSUANT TO SECTION 13 OR 15(d) OF


THE
SECURITIES EXCHANGE ACT OF 1934





FOR
THE TRANSITION PERIOD FROM _______ TO ___________




COMMISSION
FILE NO. 001-33709




CHINA
ARCHITECTURAL ENGINEERING, INC.


(Exact
Name of Registrant as Specified in its Charter)





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





REGISTRANT’S
TELEPHONE NUMBER, INCLUDING AREA CODE: 0086-756-8538908




SECURITIES
REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:




Title of Each Class
              
              Name of Each Exchange on Which
      RegisteredCommon
      Stock, $0.001 par value
              
              NASDAQ
      Global Select Market




SECURITIES
REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:




None.





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


Yes o No ý




Indicate
by check mark if the registrant is not required to file reports pursuant to
Section 13 or Section 15(d) of the Act.


Yes oNo ý




Indicate
by check mark whether the registrant (1) has filed all reports required to be
filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the
preceding 12 months (or for such shorter period that the registrant was required
to file such reports), and (2) has been subject to such filing requirements for
the past 90 days.       Yes ý No o




Indicate
by check mark if disclosure of delinquent filers pursuant to Item 405 of
Regulation S-K (§ 229.405 of this chapter) is not contained herein, and will not
be contained, to the best of registrant’s knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-K
or any amendment to this Form
10-K.              
x





Indicate
by check mark whether the registrant is a large accelerated filer, accelerated
filer, non-accelerated filer, or a smaller reporting company.  See the
definitions of “large accelerated filer,” “accelerated filer” and “smaller
reporting company” in Rule 12b-2 of the Exchange Act.  (Check
one):





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




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





The
aggregate market value of the registrant's issued and outstanding shares of
common stock held by non-affiliates of the registrant as of June 30, 2008 (based
on the price at which the registrant’s common stock was last sold on such date)
was approximately $175.5 million.





There
were 53,256,874 shares outstanding of the registrant’s common stock, par value
$0.001 per share, as of March 31, 2009. The registrant’s common stock commenced
trading on the Nasdaq Global Select Market on June 10, 2008.  Prior to
June 10, 2008, shares of common stock were listed for trading on the NYSE
Amex.  The registrant’s common stock is listed on the Nasdaq Global
Select Market under the ticker symbol “CAEI”.





DOCUMENTS
INCORPORATED BY REFERENCE:   The information required by Part III
of Form 10-K is incorporated by reference from the registrant's definitive proxy
statement on Schedule 14A that will be filed no later than the end of the
120-day period following the registrant's fiscal year end, or, if the
registrant's definitive proxy statement is not filed within that time, the
information will be filed as part of an amendment to this annual report on Form
10-K/A, not later than the end of the 120-day period.





CHINA
ARCHITECTURAL ENGINEERING, INC.





TABLE
OF CONTENTS TO ANNUAL REPORT ON FORM 10-K


For
the Fiscal Year Ended December 31, 2008




ITEM
                
                
                PagePART IItem
      1.
                
                Business
                1Item 1A.
                
                Risk
      Factors
                10Item 1B.
                
                Unresolved
      Staff Comments
                21Item
      2.
                
                Properties
                21Item
      3.
                
                Legal
      Proceedings
                22Item
      4.
                
                Submission
      of Matters to a Vote of Security Holders
                23PART IIItem
      5.
                
                Market
      for Registrant’s Common Equity, Related Stockholder Matters and Issuer
      Purchases of Equity Securities
                23Item
      6.
                
                Selected
      Financial Data
                25Item
      7.
                
                Management's
      Discussion and Analysis of Financial Condition and Results of
      Operations
                26Item
      7A.
                
                Quantitative
      and Qualitative Disclosures about Market Risk
                33Item
      8.
                
                Financial
      Statements and Supplementary Data
                34Item
      9.
                
                Changes
      in and Disagreements with Accountants on Accounting and Financial
      Disclosure
                34Item
      9A.
                
                Controls
      and Procedures
                34Item
      9B.
                
                Other
      Information
                37PART IIIItem
      10.
                
                Directors,
      Executive Officers and Corporate Governance
                38Item
      11.
                
                Executive
      Compensation
                38Item
      12.
                
                Security
      Ownership of Certain Beneficial Owners and Management and Related
      Stockholder Matters
                38Item
      13.
                
                Certain
      Relationships and Related Transactions, and Director
      Independence
                38Item
      14.
                
                Principal
      Accounting Fees and Services
                38PART IVItem
      15.
                
                Exhibits,
      Financial Statement Schedules
                38Signatures
                39


i


CAUTIONARY
STATEMENT REGARDING FORWARD-LOOKING STATEMENTS




The
information contained in this report, including in the documents incorporated by
reference into this report, includes some statements that are not purely
historical and that are “forward-looking statements.” Such forward-looking
statements include, but are not limited to, statements regarding our and their
management’s expectations, hopes, beliefs, intentions or strategies regarding
the future, including our financial condition, results of operations, and the
expected impact of the Share Exchange on the parties’ individual and combined
financial performance. In addition, any statements that refer to projections,
forecasts or other characterizations of future events or circumstances,
including any underlying assumptions, are forward-looking statements. The words
“anticipates,” “believes,” “continue,” “could,” “estimates,” “expects,”
“intends,” “may,” “might,” “plans,” “possible,” “potential,” “predicts,”
“projects,” “seeks,” “should,” “will,” “would” and similar expressions, or the
negatives of such terms, may identify forward-looking statements, but the
absence of these words does not mean that a statement is not
forward-looking.





The
forward-looking statements contained in this report are based on current
expectations and beliefs concerning future developments and the potential
effects on the parties and the transaction. There can be no assurance that
future developments actually affecting us will be those anticipated. These
forward-looking statements involve a number of risks, uncertainties (some of
which are beyond the parties’ control) or other assumptions that may cause
actual results or performance to be materially different from those expressed or
implied by these forward-looking statements, including the
following:





·
            Our
      dependence on government contracts and government sponsored
      contracts;




·
            Fluctuation
      and unpredictability of costs related to our products and
      services;




·
            Changes
      in the laws of the PRC that affect our
  operations;




·
            Our
      failure to meet or timely meet contractual performance standards and
      schedules;





·
            Adverse
      capital and credit market
conditions;





·
            Any
      recurrence of severe acute respiratory syndrome (SARS) or Avian
      Flu;




·
            Reduction
      or reversal of our recorded revenue or profits due to “percentage of
      completion” method of accounting;





·
            Increasing
      provisions for bad debt related to our accounts
  receivable;




·
            Our
      dependence on the steel and aluminum
markets;




·
            Exposure
      to product liability and defect
claims;




·
            Our
      ability to obtain all necessary government certifications and/or licenses
      to conduct our business;




·
            Expenses
      and costs related to our issuance of our bonds and bond
      warrants;




·
            The
      cost of complying with current and future governmental regulations and the
      impact of any changes in the regulations on our operations;
      and




·
            The
      other factors referenced in this report, including, without limitation,
      under the sections entitled “Risk Factors”, “Management’s Discussion and
      Analysis of Financial Condition and Results of Operations”, and
      “Business”.




These
risks and uncertainties, along with others, are also described below under the
heading “Risk Factors.” Should one or more of these risks or uncertainties
materialize, or should any of the parties’ assumptions prove incorrect, actual
results may vary in material respects from those projected in these
forward-looking statements. We undertake no obligation to update or revise any
forward-looking statements, whether as a result of new information, future
events or otherwise, except as may be required under applicable securities
laws.


ii


PART I




ITEM
1.  BUSINESS





Overview





We
specialize in high-end curtain wall systems (including glass, stone and metal
curtain walls), roofing systems, steel construction systems, eco-energy saving
building conservation systems and related products, for public works and
commercial real estate projects. We provide timely, high quality, reliable,
fully integrated and cost-effective service solutions to our clients using
specialized technical expertise in the design, engineering, fabrication,
installation and construction of structural exterior cladding systems. We
compete on the strength of our reputation, relationships with government and
commercial clients, and our ability to give expression to the vision of leading
architects. By focusing on innovation while outsourcing commoditized
manufacturing work, we believe we are able to add artistic and technological
value to projects at cost-effective price points.  In 2008, we became
a member of U.S. Green Building Council (USGBC) and we further focused on
expanding our international operations.





Market
Opportunities in China and Internationally





The
relative growth of the Chinese economy had assisted in the growth of China’s
construction industry, especially in the commercial and public works sectors. As
architectural designs for these buildings have become more complex, challenging
and modern in scope, there has been an increased need for technology driven
companies providing high-end specialty curtain wall systems. In addition,
governmental agencies and international regulators are becoming more
environmentally conscious in the enactment of regulations governing new
construction. Awareness of fuel costs and environmental concerns have resulted
in regulation designed to ensure that new commercial and public works buildings
have a low environmental impact. Technologies such as solar lighting, advanced
shading systems and circulating sea water systems are constantly improving the
ability of structures to interact with the environment by taking advantage of
natural conditions, thus meeting the dual goals of reducing energy costs and
lessening environmental impact.





As
China’s economy has also been negatively impacted by the global economic crisis,
investments in the construction sector have been significantly reduced and, as a
consequence, China’s construction industry has become a challenging environment
in which to operate.  On November 9, 2008, the Chinese central
government of the People's Republic of China announce the adoption of an
economic stimulus package worth approximately $586 billion.  The
stimulus package is designed to limit the amount of damage that the global
financial crisis can do the China’s economy, the third largest economy in the
world. The PRC government has indicated that the stimulus funds will be invested
in key areas such as housing, rural infrastructure, transportation, health and
education, environment, industry, disaster rebuilding, income-building, tax
cuts, and finance.  We expect that we may be able to benefit from the
stimulus plans over the next few years.  Preliminary government
spending plans indicate that there may be an opportunity for the use of our
products, especially on the infrastructure related projects such as large scale
railway stations and airport terminals, and public facilities, such as
libraries, museums, exhibition halls, stadiums, planetariums and science
centers.





A global
market opportunity for our products and services also exists, in areas such as
Dubai and Abu Dhabi (the United Arab Emirates), Doha (Qatar), Kuwait City
(Kuwait), Singapore and North America.   The construction market
in Dubai has been negatively impacted by the global economic crisis, which is
particularly true for residential and commercial developments.  We
believe that the impact of the recent decline in the global economy has not been
as severe on long-term, infrastructural works, such as our projects for the
Metro Railway System in Dubai, which remains on schedule.  We expect
to complete our three projects for a number of stations, footbridges and
entrance pods related to the red line of the Metro Railway System in the course
of the year 2009.  During the course of the year 2009, new contracts
may be awarded by the Metro Railway System’s main contractor for the green line.
The green line project would be similar to the works performed under the red
line projects.





The
construction market in Abu Dhabi is perhaps one of the strongest in the Middle
East. Recently, the government of Abu Dhabi approved the city’s 131-km railway
network project, which is currently scheduled to be partially complete in 2013
and fully complete in 2016.  The tendering process for this project
has commenced.  At the same time, we believe that more preparation and
decision time is taken to award and start new projects, as compared to the
process that occurred prior to the decline in the global economy. We are
pursuing several government or government-sponsored project opportunities in Abu
Dhabi and we remain optimistic that we will be able to attain projects in the
future.





Furthermore,
we have been actively exploring opportunities in other countries in the Middle
East, particularly in Qatar and Kuwait. We expect that our works in Doha (Qatar)
to be complete in the second half of 2009, and in Kuwait we are assisting the
design of the curtain wall of a commercial complex that is expected to be
tendered to the market after completion of the design.  In Singapore,
we have recently been awarded a government-sponsored for notable architecturally
designed project.  The North American market has changed significantly
for us since the last quarter of 2008, and we do not expect significant
activities from our North American operations in the near
future.


1


Products
and Services





We
specialize in high-end curtain wall systems (including glass, stone and metal
curtain walls), roofing systems, steel construction systems, eco-energy saving
building conservation systems and related products, for public works and
commercial real estate projects. We provide timely, high quality, reliable,
fully integrated and cost-effective service solutions to our clients using
specialized technical expertise in the design, engineering, fabrication,
installation and construction of structural exterior cladding systems. We design
and develop systems to offer custom-designed solutions for developers of
commercial and public works projects with special architectural features. In
terms of project management, we conduct overall project planning and control
over key areas of activities such as design and engineering, procurement,
production scheduling, quality control and site installation. We believe that
our comprehensive package of services allows us to offer customized engineering
solutions at an affordable cost to meet the requirements of our
clients.




For the
year ended December 31, 2008, approximately 58% of our sales came from new
construction projects starting in 2008 and for the year ended December 31, 2007,
approximately 98% of our sales came from new construction projects starting in
2007.  We have recently experienced an increase in the relative number
of larger projects that we conduct that require more time for completion of the
projects.





Concept
and Project Management





Initially,
we work with the architect to develop, clarify and enhance the overall creative
vision for the project. In the design of a curtain wall system, architects are
freely able to choose different structure systems to meet the requirements of
various architectural models. All contracts awarded are assigned a project
number, which was designed to track each component and man-hour associated with
the project through the entire construction process. All project drawings,
specifications and completion schedules on a project are reviewed by our senior
management team, and all projects are assigned to one or more project managers,
who assume primary responsibility for all aspects of the project. Reporting to
the project manager are construction supervisors, safety and administration
staff, quality control staff and project engineering staff. Each of these
project team members coordinates with internal functional departments and
outside suppliers as appropriate. Often a project manager assigned to a given
project will have significant experience in similar projects. A project manager
generally will be responsible for a number of projects in various stages of
completion at any given time, depending on the scope, complexity, and geographic
location of such projects. Each project is divided into critical sequences that
follow the anticipated curtain wall construction path. Each sequence follows a
timeline, the status of which is continually monitored. Project managers
coordinate and manage design changes or other changes in scheduled completion
deadlines in an effort to minimize overall project delays.





Design





Specific
technical parameters of the concept are established as new design elements are
created and combined with existing technologies. During the design phase, our
engineers and technicians review preliminary and completed designs and make
recommendations regarding types of connections, possible savings on fabrication
techniques, and methods of installation. Operating state-of-the art
computer-aided design (CAD) stations, these individuals provide customized
design solutions in the form of structural calculations, drawings, fabrication
and installation details, together with technical advice and consultancy on
specifications, feasibility studies and material procurement. At the
implementation stage of the project, detailed fabrications/shop-drawings are
produced, discussed and agreed with the project architect/manager. These form
the blueprint for project execution and scheduling. Every order is scheduled for
production through CAD and computer-aided manufacturing (CAM) systems with
progress tracked at each stage of the project process. Quality control and
assurance programs are a combination of our specifications with quality
inspectors working at all production stages.





Engineering





We
maintain significant in-house structural engineering and detailing capabilities
that enable us to implement and coordinate with our shop and field personnel
original project specifications and changes to building and structural designs
sought by our clients. These resources help influence critical determinations as
to the most cost-effective systems, designs, connections, and installation
procedures for a particular project. Our engineers work on-site with suppliers
to machine our patented curtain wall elements and to procure the appropriate raw
materials. Our detailers prepare detail shop drawings of the dimensions,
positions, locations, and connections, and the fabrication and installation
sequences, of each component utilized in a project, and continually update these
drawings to accommodate design and other changes. Our automated detailing
systems produce updated detail drawings electronically, which can be delivered
to our domestic and foreign field locations. Detailers coordinate directly with
customers and our suppliers and installation teams to determine and plan the
order of fabrication and installation of a project and associated personnel and
equipment requirements.





Fabrication





Although
we are responsible for hiring suppliers and manufacturers, we subcontract the
manufacture of parts made from glass, metal and other materials used in our
exterior cladding systems. Once parts have been manufactured by subcontracted
factories, we will occasionally process them further. This processing takes
place in our facilities in Shunde and Zhuhai and usually entails procedures such
as adding metal frames to or drilling holes in glass panes, or cutting and
bending steel rods into customized shapes. All of our products are fabricated in
accordance with applicable industry and specific customer standards and
specifications. We have developed project-specific and company-wide quality
assurance and quality control programs, and utilize sophisticated systems to
inspect all fabricated components. We prepare load lists that identify the
sequence and date that each individual component is required on a project, a
procedure that reduces the handling of and the need to store materials in the
field. After the completion of processing to customer specifications, finished
pieces are loaded for shipment to the construction site.


2


Installation





We have
31 full-time project managers/supervisors and approximately 400 part-time
on-site workers who are engaged on our projects. Our installation teams consist
of highly trained, skilled and experienced field operatives with established
lines of communication between the work site, the technical design department
and the factory, ensuring that clients are provided with optimum and
cost-effective practical solutions. Site installation is managed through our
trained project management staff, and each project has a dedicated project team.
On site there are a number of our supervisors who are each responsible for a
different section of the curtain wall project. Each supervisor typically manages
approximately 45 to 65 of our workers. A small project may have just one work
team while a very large project may have five or more. Because most of the
workers are all trained by us and are familiar with the workflow process, they
can work on any project in any location. Our project supervisors are often
internally developed from our pool of workers. Occasionally, we will hire
additional contract labor for specific sections of a very large project or if
there are several projects being installed simultaneously, but these extra
workers only supplement our core project team. The installation team coordinates
its site delivery program with the main contract schedule to meet completion
deadlines. The installation process typically consists of pre-assembly of metal
and glass component parts at the project site, the lifting of components by
crane to the appropriate location at the site and the final assembly of major
components.





Customer
Service





Our
quality control and assurance department is comprised of trained technicians who
are responsible for the quality assurance, including quality control of
in-process fabrication and site installation by a detailed inspection as well as
continued maintenance after project completion. We have adopted important safety
policies that are administered and enforced by our senior management and provide
training on safety procedures and techniques to our shop and field
personnel.





Strategy





To reach
the goal of being a preferred choice for Chinese and international governments,
developers, contractors and architectural clients, we are focusing
on:





·
            Emphasizing innovative
      services. We focus our design, engineering and installation
      expertise on distinct product segments requiring unique or innovative
      techniques as we have extensive experience in providing services requiring
      complex design, engineering and installation techniques and other unusual
      project needs. We maintain strong relationships with some of the world’s
      renowned architects due to our ability to design new concepts and provide
      tailor-made solutions.




·
            Providing full service
      solutions. We believe that a key factor in our success has been our
      ability to provide, through our in-house personnel, valuable input and
      assistance to our customers with respect to overall project design,
      engineering fabrication, and installation sequences and other critical
      project decisions.




·
            Leveraging our brand and
      reputation. We believe that the strength of our brand is increasing
      in China and internationally as we build on our large range of projects
      and our offering of comparative cost advantages and supply-chain
      management for some of the most complex exterior cladding systems in the
      world.




·
            Expanding our coverage in
      China. We believe that we have long-standing relationships with
      China’s top construction officials and leading Chinese and international
      architects, having completed high profile projects in China, including the
      National Grand Theater in Beijing, the Shanghai South Railway Station, the
      Shenzhen International Airport, the National Palace Museum in Beijing, and
      the Wuhan Qintai Grand Theatre in central China.  During the
      year 2008, we commenced three landmark projects in China, which consisted
      of the Guangzhou Opera House, Guangzhou Science Town, and Wuhan
      International Horse Racing Course.  These projects are expected
      to be completed in 2009.  We plan to continue to meet the needs
      of government and private sector customers in the larger
      cities.




·
            Expanding our coverage
      internationally. We believe that international expansion of our
      business is attractive because it may provide us with higher margins and
      more sizeable contract sums as compared to similar projects in China, and
      we hope to increase our revenues from international projects as a
      percentage of our total revenue. We have decided to predominantly focus on
      certain markets where we think we can expand sales such as Southeast Asia,
      Dubai (UAE), Doha (Qatar), other Middle Eastern countries and North
      America.




3


Product
Attributes





Our
exterior cladding systems products are highly engineered specialty wall systems
consisting primarily of a series of glass panels set in metal frames, stone
panels, or metal panels, as well as roofing systems and related products. A
curtain wall is fixed to the commercial building by mechanical connection,
either in a primarily inoperable mode or adjustable with special settings with
spring or press systems. Glass panels are connected to the metal support system
by metal clamps and fixing bolts. The support system of fixing bolts could be a
steel, aluminum and or glass structure, with glass flank or spidery tension rod
or cable.





We offer
a variety of support systems:





Glass Fin Support System.The
facial glass mixing with the glass fin provides facade with maximum
transparence, which eliminates the differential expansion among glass metal
structures.





Metal Structure Support System.This system utilizes both steel post and steel truss of aluminum post in
a metal structure. One of our most popular support systems, its flexibility can
fully meet the criteria of demanding modern architecture. At the same time, the
combination of transparent glass and steady metal structure completely realizes
a harmony between beauty and force, elegance and strength.





Spidery Tension Rod/Cable Support
System.This system utilizes a stainless steel tension rod connector for
connecting the tension rod or the tension cable to the steel structure in order
to form a stable spidery structure for glass curtain wall supporting. A response
to the challenge of modern architecture, architects are able to create a smooth
and transparent facade.





We use a
variety of clamping devices to integrate the glass frame to the support system.
Metal “spider” clamps are cast from stainless or high-strength carbonic steel in
and provide the features of high strength, simple installment and easy
maintenance. Our metal clamps integrate the facial glass with the structure,
enhancing the hardness of an entity. Transferable cabling structure makes the
curtain wall stretch higher, meeting designers’ requirements for the larger size
of vertical space. The combination of steel and glass embodies the feature of
stability, lightness and transparency, expressing the majesty and originality of
a building.




Our
fixing bolts are made of stainless steel and are used for holding the glass
glazing. These specifically designed bolts transfer the wind loads, deflection
stress and the weight of glass itself to the metal support system, which helps
reduce the strain on the glass and ensure structural integrity. These bolts are
offered in both countersink and flat head. Countersink head fixing bolts they
provide a smooth surface when fit flush in the outward surfaces of the glass.
They are typically utilized in single and double glazed glass structures. The
cylindrical head of our flat head fixing bolts protrude from the surface of
glass, which provides more strength against wind force and shear force and can
use to fix laminated and insolated glass.





We offer
a variety of glass panels allowing a diverse selection of styles to meet the
architectural demands of our clients:





Insulating Glass. Increases a
window’s thermal performance and sound insulation; constructed with two or more
pieces of glass separated by a desiccant-filled spacer and sealed with an
organic sealant. The desiccant absorbs the insulating glass unit’s internal
moisture.




Laminated Glass. Consists of
two or more pieces of glass fused with a vinyl or urethane interlayer and is
used primarily for skylight, security and hurricane-resistant
application.





Energy- Efficient Coated
Glass. Provides solar control, both minimizing heat gain and controlling
thermal transfer, by adding coatings to glass. In addition, coatings add color
and varying levels of reflectively.





Spandrel Glass. The use of
full coverage paint on insulated glass or polyester opacifier film backing on
high performance coated glass for the non-vision areas of the
building.





Stone or
metal may also be used as paneling.





Projects





Our work
is performed under cost-plus-fee contracts and fixed-price contracts. The length
of our contracts varies but typically has duration of one to two
years.





Approximately
95% of our sales are from fixed price contracts. The remaining 5% of our sales
are from cost-plus-fee contracts. Under fixed-price contracts, we receive a
fixed price. Approximately 70% of contracts are modified after they begin,
usually to accommodate requests from clients to increase project size and scope.
In cases where fixed-price contracts are modified, the fixed price is
renegotiated and adjusted upwards accordingly. A disadvantage of fixed-price
contracts is that we realize a profit only if we control our costs and prevent
cost over-runs on the contracts, which can oftentimes be out of our control,
such as cost of materials. An advantage of these contracts is that we can adjust
the material and technology that we use in the project, as long as we satisfy
the requirements of our customer, and there is a potential to benefit from lower
costs of materials.


4


Under
cost-plus-fee contracts, which may be subject to contract ceiling amounts, we
are reimbursed for allowable costs and fees, which may be fixed or
performance-based. If our costs exceed the contract ceiling or are not allowable
under the provisions of the contract or any applicable regulations, we may not
be reimbursed for all our costs. An advantage of cost-plus-fee contracts is that
the cost of materials generally has no effect on our profit, since we are
reimbursed for costs. A disadvantage is that the profit resulting from any cost
savings on the materials goes to the contractor and not us.





During
2008, we completed approximately 30 projects.  Our three largest
projects are Dubai Metro Red Line, Wuhan International Horse Racing Course, and
Doha High Rise Office Tower, which accounted for approximately 37.7%, 4.7% and
3.6% of our sales, respectively, for the year ended December 31,
2008.





Sales
and Marketing





Sales





Sales
managers lead our sales and marketing efforts through our domestic headquarters
in Shenzhen, China, and our main regional sales offices in Beijing, Shanghai,
Guangzhou, Shenzhen, Wuhan, Nanjing, Tianjin and Chengdu.  Outside of
China, we have sales managers in Hong Kong, Dubai (the United Arab Emirates),
Doha (Qatar), Singapore and New York (the United States).  Each sales
manager is responsible primarily for our estimates, sales, and marketing efforts
in defined geographic areas. In addition, we employ full-time project estimators
and chief estimators.  Our sales representatives attempt to maintain
relationships with governments, developers, general contractors, architects,
engineers, and other potential sources of business to determine potential new
projects under consideration. Our sales efforts are further supported by our
executive officers and engineering personnel, who have substantial experience in
the design, engineering, fabrication, and installation of high-end specialty
curtain walls.




We
compete for new project opportunities through our relationships and interaction
with our active and prospective customer base, which we believe provides us with
valuable current market information and sales opportunities. In addition, we are
often contacted by governmental agencies in connection with public construction
projects, and by large private-sector project owners and general contractors and
engineering firms in connection with new building projects both in China and
other countries, sometimes at the recommendation of architects and engineers we
have worked with in the past.




Upon
selection of projects to bid or price, our estimating division reviews and
prepares projected costs of shop, field, detail drawing preparation, raw
materials, and other costs. On bid projects, a formal bid is prepared detailing
the specific services and materials we plans to provide, payment terms and
project completion timelines. Upon acceptance, our bid proposal is finalized in
a definitive contract. We experience an average accounts settlement period
ranging from three months to as high as one year from the time we provide
services to the time we receive payment from our customers. In contrast, we
typically need to place certain deposit with our suppliers on a portion of the
purchase price in advance and for some suppliers we must maintain a deposit for
future orders. We are typically paid by the contractor the entire amount due to
us for our services and products once the entire project is completed, which
could be significantly after we complete the curtain wall portion of the
project. China’s policy requires the contractor to pay 85% of our total contract
value to us before the project is completed, and the remainder may be paid when
the contractor completes the entire project. In addition, current national
policy in China dictates that for government projects sub-contractors will be
paid directly from the government budget offices, not through general
contractors and/or developers. Because our payment cycle is considerably shorter
than our receivable cycle, we may experience working capital shortages. We have
used bank loans, cash provided by operations and other financings to fund our
operations.





Marketing





Management
believes that we have developed a reputation for innovative technology and
quality in the specialty high-end curtain wall industry. Marketing efforts are
geared towards advancing us as a brand of choice for building the world’s most
modern and challenging projects.





The focus
of our marketing plan is print advertising, participation in tradeshows,
exhibitions, lecture and technology briefings to architects and property owners.
To better showcase our diverse products to potential customers, we regularly
exhibit at leading trade shows and exhibitions. Our dynamic, state-of-the-art
trade show exhibits are developed internally to showcase our latest product
offerings.





Production





Supplier
Selection





We
procure high quality glass panes, metal support beams, and other curtain wall
components from a number of regional and international suppliers, depending on
the requirements of the contract. Once the suppliers are chosen, our engineers
work with them to configure their production processes to manufacture anything
from a standard glass pane to a patented fixing bolt or connector. All
manufacturing is monitored and approved by our quality control and engineering
departments.


5


Component
Processing and Delivery





Once the
curtain wall components are produced, they are either shipped directly to the
site or sent to one of our facilities for further processing. Such processing
typically involves drilling holes in glass panes, affixing metal frame pieces to
glass panes, and cutting steel rods and bending them into customized shapes. The
project manager and project engineer jointly approve all factory
purchases.





Quality
Control





Our
manufacturing production facilities are designed and maintained with a view
towards conforming to good practice standards. To comply with the strict
requirements of our customer base, we have implemented a quality assurance plan
setting forth our quality assurance procedures. Our quality control department
is responsible for maintaining quality standards throughout the production
process. Quality control executes the following functions:





·
            setting
      internal controls and regulations for semi-finished and finished
      products;




·
            implementing
      sampling systems and sample files;




·
            maintaining
      quality of equipment and
instruments;




·
            auditing
      production records to ensure delivery of quality
  products;




·
            articulating
      the responsibilities of quality control staff;
  and




·
            on-site
      evaluation of supplier quality control
systems.




We have
received the following certifications in recognition of our production and
quality assurance program:




·
              ISO
      9001 - International Quality System Certification, valid from April 9,
      2008 to April 8, 2011;·
              ISO
      14001 - International Environmental System Certification, valid from April
      9, 2008 to April 8, 2011; and·
              ISO
      18001 - International Safety System Certification, valid from April 16,
      2008 to April 15, 2011.




Research
and Development





Companies
such as us are under pressure from customers to respond more quickly with new
designs and product innovations to support rapidly changing consumer tastes and
regulatory requirements. We believe that the engineering and technical expertise
of our management and key personnel, together with our emphasis on continuing
research and development in support of our high-end curtain wall technologies,
allows us to efficiently and timely identify and bring new, innovative products
to market for our customers using the latest technologies, materials and
processes. We believe that continued research and development activities are
critical to maintaining our offering of technologically-advanced products to
serve a broader array of our customers.





For
example, in an effort to add value and create new markets, we are working to
develop high performance systems that reduce the need for air conditioning in
the summer and heat in the winter. Our products under development are designed
to both reduce the direct light and heat coming into the building and, through
the use of photovoltaic cells, to harness the energy collected from the sun and
further reduce external energy costs by generating power for use in other areas
of the building. Other features are designed to add a level of programmed
intelligence, automatically adjusting louvers/blinds and other façade controls
to achieve predetermined levels for user comfort. These efforts are made to meet
the demand for self-sustaining buildings and clean, renewable power in response
to climbing energy prices and declining energy reserves.





Our
research and development strategy relies primarily on internal innovation and
development, supplemented with collaboration with academic and research
institutions. For example, in 2001, we were appointed by the Chinese Ministry of
Construction to lead the committee tasked with establishing national standards
for the fixing bolt glass curtain wall technology industry. Luo Ken Yi, our
Chief Executive Officer was the Editor-in-Chief for the new standard code. Also,
in recognition of our contributions to the curtain wall industry, Luo Ken Yi and
two other of our engineers were appointed to senior posts at the Architectural
Glass and Metal Structure Institute of Qinghua University in Beijing, one of the
most prestigious research institutions in China, which we helped to create in
1999. We were able to incorporate many of the academic research results by the
Institute into our projects, including the National Grand Theater in Beijing and
the Hangzhou Grand Theater, both completed in 2007.





We
actively track research developmental trends and government regulations, and
continually seek to both improve and perfect existing products and develop new
ones in accelerated product development cycles. In addition, we seek to recruit
and retain qualified Chinese and foreign technical personnel. As of December 31,
2008, we employed 150 designers and engineers and additional three research and
development personnel.


6


We
currently own seven-six patents, of which forty-nine are approved, six are
pending approval and twenty-one are in the application stage. Of the forty-nine
approved, forty-nine are in China and seven are in the US, Europe, Japan and
Hong Kong.





We
expended $711,318, $111,129 and $50,117 on research and development activities
for each of the years ended December 31, 2008, 2007 and 2006, respectively.
These amounts exclude design and construction of customized molds used to
manufacture the pieces used for a particular project, as well as sample and
testing costs.





Backlog





As of
December 31, 2008, our total backlog of orders considered to be firm was
approximately $176 million, compared with $106 and $10 million at December 31,
2007 and 2006, respectively. Of our 2008 amounts, 80% of the backlog, or $141
million, is expected to generate revenues in fiscal 2009, compared to 80% of our
2007 backlog ($85 million) realized in fiscal 2008; 100% of our 2006 backlog
($10 million) realized in fiscal 2007 and 40% of our 2005 backlog ($10.5
million) realized in fiscal 2006.  Of the backlog for the year ended
December 31, 2008, 66.7% consists of orders for projects outside our home market
of China.





We define
backlog as the total anticipated revenue from projects already begun and
upcoming projects for which contracts have been signed or awarded and pending
signing.  We view backlog as an important statistic in evaluating the
level of sales activity and short-term sales trends in our business. However, as
backlog is only one indicator, and is not an effective indicator of the ultimate
profitability of our sales, we do not believe that backlog should be used as the
sole indicator of our future earnings.  There can be no assurance that
the backlog at any point in time will translate into net revenue in any
subsequent period.





Competition





The
markets that we serve are highly competitive, price and lead-time sensitive and
are impacted by changes in the commercial construction industry, including
unforeseen delays in project timing and workflow. In addition, competition in
the markets of the building industry is intense. It is based primarily
on:





·
            quality;




·
            service;




·
            delivery;




·
            ability
      to provide added value in the design and engineering of
      buildings;




·
            price;




·
            speed
      of construction in buildings and components;
and




·
            personal
      relationships with customers.




We
compete with several large integrated glass manufacturers, numerous specialty,
architectural glass and window fabricators, and major contractors and
subcontractors. We also compete with a number of other manufacturers of
engineered building systems ranging from small local firms to large national
firms. Many of our competitors have greater financial or other resources than we
do. In addition, we and other manufacturers of engineered high-end curtain walls
compete with alternative methods of building construction. If these alternative
building methods compete successfully against us, such competition could
adversely affect us.





Government
Regulation





Construction industry





China’s
construction industry is heavily regulated by the national government. On
November 1, 1997, the National Government of the PRC published the Construction
Law of the PRC, Presidential Order No. 91, which is the basic construction law
of China. This law outlines the basic requirements and rules for all
construction activity in China. Underneath the National Government, the Ministry
of Construction also writes laws. On March 14, 2001, the Ministry of
Construction published Rule No. 87, which puts forth licensing requirements for
all construction companies operating in China. The Ministry of Construction also
writes specific standards for all different types of construction. The three
standards from the Ministry of Construction which are most relevant to our
business are: (i) the Curtain Wall Engineering and Design Licensing Standard,
and (ii) the Light-Duty Steel Building Structure Engineering and Design
Licensing Standard, and (iii) the Automated Building Control System Standard.
These standards stipulate the basic requirements for construction companies in
China in such areas as registered capital, tangible assets, liability insurance,
employee regulations and engineering certifications. The standards also have
graded levels of qualification. We have first class certification for the
Curtain Wall Standard and Second Class Certification for the Light Steel
Structure Standard. In addition, provincial and municipal governments may also
enact regulations through their own construction bureaus.


7


Business
license





Any
company that conducts business in the PRC must have a business license that
covers a particular type of work. Our business license covers our present
business, which is to design, fabricate and install curtain wall systems
(including glass, stone and metal curtain walls), roofing systems, steel
construction systems, eco-energy saving building conservation systems and
provision of related products, for public works and commercial real estate
projects.  Prior to expanding our business beyond that of our business
license, we are required to apply and receive approval from the PRC
government.





Employment
laws





We are
required to contribute a portion of our employees’ total salaries to the Chinese
government’s social insurance funds, including medical insurance, unemployment
insurance and job injuries insurance, and a housing assistance fund, in
accordance with relevant regulations. We are required to contribute to
government social security, medical insurance, unemployment insurance,
disability insurance and so on for our employees based in Hong Kong, Australia
and the United States.  Recent changes in Chinese labor laws that
became effective January 1, 2008 that results in an increase of labor costs and
impose restrictions on our relationship with our employees. There can be no
assurance that the labor laws will not change further or that their
interpretation and implementation will vary, which may have a negative effect
upon our business and results of operations.





Patent
protection in China





The PRC’s
intellectual property protection regime is consistent with those of other modern
industrialized countries. The PRC has domestic laws for the protection of rights
in copyrights, patents, trademarks and trade secrets.





The PRC
is also a signatory to most of the world’s major intellectual property
conventions, including:





—
Convention establishing the World Intellectual Property Organization (WIPO
Convention) (June 4, 1980);





—
Paris Convention for the Protection of Industrial Property (March 19,
1985);





—
Patent Cooperation Treaty (January 1, 1994); and





—
The Agreement on Trade-Related Aspects of Intellectual Property Rights (TRIPs)
(November 11, 2001).





Patents
in the PRC are governed by the China Patent Law and its Implementing
Regulations, each of which went into effect in 1985. Amended versions of the
China Patent Law and its Implementing Regulations came into effect in 2001 and
2003, respectively.





The PRC
is signatory to the Paris Convention for the Protection of Industrial Property,
in accordance with which any person who has duly filed an application for a
patent in one signatory country shall enjoy, for the purposes of filing in the
other countries, a right of priority during the period fixed in the
convention.





The
Patent Law covers three kinds of patents—patents for inventions, utility models
and designs. The Chinese patent system adopts the principle of first to file;
therefore, where more than one person files a patent application for the same
invention, a patent can only be granted to the person who first filed the
application. Consistent with international practice, the PRC only allows the
patenting of inventions or utility models that possess the characteristics of
novelty, inventiveness and practical applicability. For a design to be
patentable, it cannot be identical with or similar to any design which, before
the date of filing, has been publicly disclosed in publications in the country
or abroad or has been publicly used in the country, and should not be in
conflict with any prior right of another.





PRC law
provides that anyone wishing to exploit the patent of another must conclude a
written licensing contract with the patent holder and pay the patent holder a
fee. One broad exception to this rule, however, is that, where a party possesses
the means to exploit a patent but cannot obtain a license from the patent holder
on reasonable terms and in reasonable period of time, the PRC State Intellectual
Property Office, or SIPO, is authorized to grant a compulsory license. A
compulsory license can also be granted where a national emergency or any
extraordinary state of affairs occurs or where the public interest so requires.
SIPO, however, has not granted any compulsory license to date. The patent holder
may appeal such decision within three months from receiving notification by
filing a suit in a people’s court.


8


PRC law
defines patent infringement as the exploitation of a patent without the
authorization of the patent holder. Patent holders who believe their patent is
being infringed may file a civil suit or file a complaint with a PRC local
Intellectual Property Administrative Authority, which may order the infringer to
stop the infringing acts. Preliminary injunction may be issued by the People’s
Court upon the patentee’s or the interested parties’ request before instituting
any legal proceedings or during the proceedings. Damages in the case of patent
infringement is calculated as either the loss suffered by the patent holder
arising from the infringement or the benefit gained by the infringer from the
infringement. If it is difficult to ascertain damages in this manner, damages
may be reasonably determined in an amount ranging from one to more times of the
license fee under a contractual license. The infringing party may be also fined
by Administration of Patent Management in an amount of up to three times the
unlawful income earned by such infringing party.





Foreign
currency exchange





Under the
PRC foreign currency exchange regulations applicable to us, the Renminbi is
convertible for current account items, including the distribution of dividends,
interest payments, trade and service-related foreign exchange transactions.
Conversion of Renminbi for capital account items, such as direct investment,
loan, security investment and repatriation of investment, however, is still
subject to the approval of the PRC State Administration of Foreign Exchange, or
SAFE. Foreign-invested enterprises may only buy, sell and/or remit foreign
currencies at those banks authorized to conduct foreign exchange business after
providing valid commercial documents and, in the case of capital account item
transactions, obtaining approval from the SAFE. Capital investments by
foreign-invested enterprises outside of China are also subject to limitations,
which include approvals by the Ministry of Commerce, the SAFE and the State
Reform and Development Commission.  We currently do not hedge our
exposure to fluctuations in currency exchange rates.





Dividend
distributions





Under
applicable PRC regulations, foreign-invested enterprises in China may pay
dividends only out of their accumulated profits, if any, determined in
accordance with PRC accounting standards and regulations. In addition, a
foreign-invested enterprise in China are required to set aside at least 10.0% of
their after-tax profit based on PRC accounting standards each year to its
general reserves until the accumulative amount of such reserves reach 50.0% of
its registered capital. These reserves are not distributable as cash dividends.
The board of directors of a foreign-invested enterprise has the discretion to
allocate a portion of its after-tax profits to staff welfare and bonus funds,
which may not be distributed to equity owners except in the event of
liquidation





Employees





As of
December 31, 2008, we had 691 full-time employees, 8 part-time employees and an
additional 407 part-time on-site employees. Substantially all of our employees
are located in China and Hong Kong. We now have a small number of employees in
Doha (Qatar), Dubai (the United Arab Emirates), the United States &
Australia. Approximately one-quarter of our employees are designers and
engineers, one-seventh are project managers/supervisors and the remaining
employees are supply chain and administrative staff. We believe that our
relationship with our employees is good.


9


ITEM
1A. RISK FACTORS





Any
investment in our securities involves a high degree of risk. Investors should
carefully consider the risks described below and all of the information
contained in this report before deciding whether to purchase our securities. Our
business, financial condition or results of operations could be materially
adversely affected by these risks if any of them actually occur. The trading
price of our common stock could decline due to any of these risks, and an
investor may lose all or part of his investment. Some of these factors have
affected our financial condition and operating results in the past or are
currently affecting our company. This report also contains forward-looking
statements that involve risks and uncertainties. Our actual results could differ
materially from those anticipated in these forward-looking statements as a
result of certain factors, including the risks we face as described below and
elsewhere in this report. With respect to this discussion, the terms, “we,”
“us,” or “our” refer to China Architectural Engineering, Inc., and all of our
subsidiaries.





RISKS
RELATED TO OUR OPERATIONS





If
we are unable to accurately estimate and control our contract costs and
timelines, then we may incur losses on our contracts, which may result in
decreases in our operating margins and in a significant reduction or elimination
of our profits.





If we do
not control our contract costs, we may be unable to maintain positive operating
margins or experience operating losses. Approximately 95% of our sales are from
fixed-price contracts. The remaining 5% of our sales are from cost-plus-fee
contracts. Under fixed-price contracts, we receive a fixed price. Consequently,
we realize a profit on fixed-price contracts only if we control our costs and
prevent cost over-runs on the contracts. Approximately 70% of contracts are
modified after they begin, usually to accommodate requests from clients to
increase project size and scope. In cases where fixed-price contracts are
modified, the fixed price is renegotiated and adjusted upwards accordingly.
Under cost-plus-fee contracts, which may be subject to contract ceiling amounts,
we are reimbursed for allowable costs and fees, which may be fixed or
performance-based. If our costs exceed the contract ceiling or are not allowable
under the provisions of the contract or any applicable regulations, we may not
be reimbursed for all our costs. Under each type of contract, if we are unable
to estimate and control costs and/or project timelines, we may incur losses on
our contracts, which may result in decreases in our operating margins and in a
significant reduction or elimination of our profits.





Our use of the
“percentage-of-completion” method of accounting could result in reduction or
reversal of previously recorded revenues and profits.





A
substantial portion of our revenues and profits are measured and recognized
using the “percentage-of-completion” method of accounting, which is discussed
further in Note 2, “Summary of Significant Accounting Policies” to our
“Financial Statements.” Our use of this method results in recognition of
revenues and profits ratably over the life of a contract, based generally on the
proportion of costs incurred to date to total costs expected to be incurred for
the entire project. The effect of revisions to revenues and estimated costs is
recorded when the amounts are known or can be reasonably
estimated.  There are uncertainties inherent in the estimating
process, and estimate revisions may occur.  Such revisions could occur
in any period and their effects could be material.  For example, in
the fourth quarter of 2008, we conducted an interim review of actual incurred
and further projected costs versus budgeted costs related to certain ongoing
projects, and as a result of the review, we revised our estimates that decreased
the gross profit related to these projects primarily as a result of higher than
expected startup, transportation, material and labor costs.  The
effect of revisions to revenues and estimated costs was recorded in the fourth
quarter of 2008.  As is customary in the construction industry, we
intend to conduct interim reviews on a rolling basis, and it may be determined
during these reviews that actual costs on a project or projects vary materially
from estimates, including reductions or reversals of previously recorded
revenues and profits.  Our results of operations for current and past
periods may be negatively affected by revisions to estimates and reductions or
reversals of previously recorded revenues and profits, which could harm the
value of our securities.





If we fail to timely complete, miss a
required performance standard or otherwise fail to adequately perform on a
project, then we may incur a loss on that project, which may affect our overall
profitability.





We may
commit to a client that we will complete a project by a scheduled date. We may
also commit that a project, when completed, will achieve specified performance
standards. If the project is not completed by the scheduled date or subsequently
fails to meet required performance standards, we may either incur significant
additional costs or be held responsible for the costs incurred by the client to
rectify damages due to late completion or failure to achieve the required
performance standards. The uncertainty of the timing of a project can present
difficulties in planning the amount of personnel needed for the project. If the
project is delayed or canceled, we may bear the cost of an underutilized
workforce that was dedicated to fulfilling the project. In addition, performance
of projects can be affected by a number of factors beyond our control, including
unavoidable delays from weather conditions, unavailability of vendor materials,
changes in the project scope of services requested by clients or labor
disruptions. In some cases, should we fail to meet required performance
standards, we may also be subject to agreed-upon financial damages, which are
determined by the contract. To the extent that these events occur, the total
costs of the project could exceed our estimates and we could experience reduced
profits or, in some cases, incur a loss on that project, which may affect our
overall profitability.


10


A
substantial portion of our assets has been comprised of construction contract
receivables representing amounts owed by a small number of customers. If any of
these customers fails to timely pay us amounts owed, we could suffer a
significant decline in cash flow and liquidity which, in turn, could cause us to
be unable pay our liabilities and purchase an adequate amount of inventory to
sustain or expand our sales volume.





Our
construction contract receivables represented approximately 68.8% and 83.0% of
our total current assets as of December 31, 2008 and 2007, respectively. As of
December 31, 2008, our largest customer represented over 25.7% of the total
amount of our construction contract receivables. As a result of the substantial
amount and concentration of our construction contract receivables, if any of our
major customers fails to timely pay us amounts owed, we could suffer a
significant decline in cash flow and liquidity which could adversely affect our
ability to borrow funds to pay our liabilities and to purchase inventory to
sustain or expand our current sales volume.




The
growth of aging receivables and a deterioration in the collectability of these
accounts could adversely affect our results of operations.





We
provide for bad debts principally based upon the aging of accounts receivable,
in addition to collectability of specific customer accounts, our history of bad
debts, and the general condition of the industry. We are currently involved in
six lawsuits in which we are suing other parties for overdue payments. The total
amount involved is approximately $3.2 million.  We have decided to
record a general provision for doubtful accounts amounting to $5 million in
2008, which management believes is commensurate to cover the associated credit
risk in the portfolio of our construction contract related
receivables.  As of December 31, 2008, our provision for doubtful
accounts was $5.2 million, which was 5.6% of our construction contract related
receivables of $93.0 million. We believed it was appropriate to increase the
reserve for doubtful accounts during the fourth quarter of 2008 primarily due to
an increase in the aging of our accounts receivable, the growth of the
outstanding balance of receivables as of December 31, 2008, and the general
decline in the domestic and global economy.  Due to the difficulty in
assessing future trends, we could be required to further increase our provisions
for doubtful accounts.  As our accounts receivable age and become
uncollectible our cash flow and results of operations are negatively
impacted.





We
depend on a small number of customers for the vast majority of our sales. A
reduction in business from any of these customers could cause a significant
decline in our sales and profitability.





The vast
majority of our sales are generated from a small number of customers. For the
year ended December 31, 2008, we had three customers that each accounted for at
least 4% of the revenues that we generated, with one customer accounting for
37.7% of our revenue. These three customers accounted for a total of
approximately 46.8% of our revenue for that period. We expect that we will
continue to depend upon a small number of customers for a significant majority
of our sales for the foreseeable future.  A reduction in business from
any of these customers could cause a significant decline in our sales and
profitability.





Because
we depend on governmental agencies for a significant portion of our revenue, our
inability to win or renew government contracts could harm our operations and
significantly reduce or eliminate our profits.





Revenues
from Chinese government contracts represented approximately 24.4% of our
revenues for the year ended December 31, 2008. Our inability to win or renew
Chinese government contracts could harm our operations and significantly reduce
or eliminate our profits. Chinese government contracts are typically awarded
through a regulated procurement process. Some Chinese government contracts are
awarded to multiple competitors, causing increases in overall competition and
pricing pressure. The competition and pricing pressure, in turn may require us
to make sustained post-award efforts to reduce costs in order to realize
revenues under these contracts. If we are not successful in reducing the amount
of costs we anticipate, our profitability on these contracts will be negatively
impacted.





Starting
in 2008, we have substantially expanded our international operations that
subject us to risks associated with operating in international
markets.





For
fiscal 2008 and 2007, revenue from sales of our products and services
internationally (for our purposes, outside of China) represented approximately
44.6% and 4.9%, respectively, of our total revenue.  Although we
continue to expand our international operations, we cannot be certain that we
will be able to maintain or increase international market demand for our
products and services. To the extent that we cannot do so in a timely manner,
our business, operating results and financial condition will be adversely
affected. International operations are subject to inherent risks, including the
following:





·
            unexpected
      changes in regulatory requirements, tariffs and other trade barriers or
      restrictions;




·
            longer
      accounts receivable payment cycles and the difficulty of enforcing
      contracts and collecting receivables through certain foreign legal
      systems;




·
            difficulties
      in managing and staffing international
  operations;




·
            potentially
      adverse tax consequences;




·
            the
      burdens of compliance with a wide variety of foreign
  laws;




·
            import
      and export license requirements and restrictions of the United States and
      each other country in which we
operate;




11


·
            exposure
      to different legal standards and reduced protection for intellectual
      property rights in some countries;




·
            currency
      fluctuations and restrictions;




·
            political,
      social and economic instability, including war and the threat of war, acts
      of terrorism, pandemics, boycotts, curtailment of trade or other business
      restrictions; and




·
            periodic
      foreign economic downturns.




Any of
these factors may adversely affect our future international sales and,
consequently, our business and operating results. Furthermore, as we increase
our international sales, total revenue may also be affected to a greater extent
by seasonal fluctuations resulting from lower sales that typically occur during
the summer months in Europe and other parts of the world.





We
believe that international sales will continue to represent a significant
portion of our revenue, and that continued growth and profitability may require
further expansion of our international operations.





Our
future revenues depend on our ability to consistently bid and win new contracts
and renew existing contracts and, therefore, our failure to effectively obtain
future contracts could adversely affect our profitability.





Our
future revenues and overall results of operations require us to successfully bid
on new contracts and renew existing contracts. Contract proposals and
negotiations are complex and frequently involve a lengthy bidding and selection
process, which is affected by a number of factors, such as market conditions,
financing arrangements and required governmental approvals. If negative market
conditions arise, or if we fail to secure adequate financial arrangements or the
required governmental approval, we may not be able to pursue particular
projects, which could adversely affect our profitability.





Adverse
capital and credit market conditions may significantly affect our ability to
meet liquidity needs, access to capital and cost of capital.





The
capital and credit markets have been experiencing extreme volatility and
disruption in recent months, including, among other things, extreme volatility
in securities prices, severely diminished liquidity and credit availability,
ratings downgrades of certain investments and declining valuations of others.
Governments have taken unprecedented actions intended to address extreme market
conditions that have included severely restricted credit and declines in real
estate values. In some cases, the markets have exerted downward pressure on
availability of liquidity and credit capacity for certain issuers. While
currently these conditions have not impaired our ability to utilize our current
credit facilities and finance our operations, there can be no assurance that
there will not be a further deterioration in financial markets and confidence in
major economies such that our ability to access credit markets and finance our
operations might be impaired. Without sufficient liquidity, we may be forced to
curtail our operations. Adverse market conditions may limit our ability to
replace, in a timely manner, maturing liabilities and access the capital
necessary to operate and grow our business. As such, we may be forced to delay
raising capital or bear an unattractive cost of capital which could decrease our
profitability and significantly reduce our financial flexibility. Demand for our
services is cyclical and vulnerable to economic downturns.   The
current tightening of credit in financial markets could adversely affect the
ability of our customers to obtain financing for purchases of our services and
could result in a decrease in or cancellation of orders for our services. We are
unable to predict the duration and severity of the current disruption in
financial markets and the global adverse economic conditions and the effect such
events might have on our business. Our results of operations, financial
condition, cash flows and capital position could be materially adversely
affected by disruptions in the financial markets.





Our
results could be adversely impacted by product quality and
performance.





We
manufacture or install products based on specific requirements of each of our
customers. We believe that future orders of our products or services will depend
on our ability to maintain the performance, reliability and quality standards
required by our customers. If our products or services have performance,
reliability or quality problems, we may experience delays in the collection of
accounts receivables, higher manufacturing or installation costs, additional
warranty and service expense, and reduced, cancelled or discontinued orders.
Additionally, performance, reliability or quality claims from our customers,
with or without merit, could result in costly and time-consuming litigation that
could require significant time and attention of management and involve
significant monetary damages.





Continued price volatility and supply
constraints in the steel and aluminum markets could prevent us from meeting
delivery schedules to our customers or reduce our profit
margins.





We buy
semi-finished products made of aluminum, steel and glass, and, to a degree, our
business is dependent on the prices and supply of steel and aluminum, which,
along with glass, are the principal raw materials used in our products. The
steel and aluminum industries are highly cyclical in nature, and steel and
aluminum prices have been volatile in recent years and may remain volatile in
the future. Our purchases of aluminum ranged from approximately $3.48 to $6.65
per pound and $5.73 to $6.94 per pound during the years ended December 31, 2008
and 2007, respectively, fluctuations of approximately 91% and 21% respectively.
The price we paid for steel also fluctuated. For the year ended December 31,
2008, prices for seamless steel tubes ranged from approximately $761 to $1069
per ton (a difference of approximately 40%), prices for angled steel ranged from
approximately $571 to $805 per ton (a difference of approximately 41%), and
prices for steel plates ranged from approximately $600 to $996 per ton (a
difference of approximately 66%).


12


Steel and
aluminum prices are influenced by numerous factors beyond our control, including
general economic conditions, competition, labor costs, production costs, import
duties and other trade restrictions. In the past, there have been unusually
rapid and significant increases in steel and aluminum prices and severe
shortages in the steel and aluminum industries due in part to increased demand
from China’s expanding economy and high energy prices. We do not have any
long-term contracts for the purchase of steel and aluminum and normally do not
maintain inventories of steel and aluminum in excess of our current production
requirements. We can give you no assurance that steel and aluminum will remain
available or that prices will not continue to be volatile. If the available
supply of steel and aluminum declines, we could experience price increases that
we are not able to pass on to our customers, a deterioration of service from our
suppliers or interruptions or delays that may cause us not to meet delivery
schedules to our customers. Any of these problems could adversely affect our
results of operations and financial condition.





Our
business is characterized by long periods for collection from our customers and
short periods for payment to our suppliers, the combination of which may cause
us to have liquidity problems.





We
experience an average accounts settlement period ranging from two months to as
high as one year from the time we provide services to the time we receive
payment from our customers for domestic contracts.  For our overseas
projects, we typically experience an account settlement period according to the
contracts.  In most international contracts, the account settlement
period is approximately two months.   In contrast, we typically
need to place certain deposits with our suppliers on a portion of the purchase
price in advance and for some suppliers we must maintain a deposit for future
orders. We are typically paid by the contractor the entire amount due to us for
our services and products once the entire project is completed, which could be
significantly after we complete the curtain wall portion of the project. China’s
policy requires the contractor to pay 85% of our total contract value to us
before the project is completed, and the remainder may be paid when the
contractor completes the entire project. Because our payment cycle is
considerably shorter than our receivable cycle, we may experience working
capital shortages. Working capital management, including prompt and diligent
billing and collection, is an important factor in our results of operations and
liquidity. We cannot assure you that system problems, industry trends or other
issues will not extend our collection period, adversely impact our working
capital.





The
industries in which we operate are highly competitive.





The
markets we serve are very competitive, price and lead-time sensitive and are
impacted by changes in the commercial construction industry, including
unforeseen delays in project timing and work flow. In addition, competition in
the markets of the building industry and in the metal coil coating industry is
intense. It is based primarily on:





·
            quality;




·
            service;




·
            delivery;




·
            ability
      to provide added value in the design and engineering of
      buildings;





·
            price;




·
            speed
      of construction in buildings and components;
and




·
            personal
      relationships with customers.





We
compete with several large integrated glass manufacturers, numerous specialty,
architectural glass and window fabricators, and major contractors and
subcontractors. We also compete with a number of other manufacturers of
engineered building systems ranging from small local firms to large national
firms. In addition, we and other manufacturers of engineered high-end curtain
walls compete with alternative methods of building construction. If these
alternative building methods compete successfully against us, such competition
could adversely affect us. Demand for our services is cyclical and vulnerable to
economic downturns. If the economy weakens, then our revenues, profits and our
financial condition may deteriorate. Many of our competitors have greater
financial or other resources than we do.


13


We
are currently a defendant in a lawsuit in Hong Kong regarding our acquisition of
Techwell Engineering Limited (“Techwell”) in November 2007, pursuant to which
the sellers have alleged that, inter alia, (i) we
misrepresented to them the financial status of our company and operations during
the course the acquisition was being negotiated; and (ii) we failed to perform
our obligations under a settlement agreement alleged to be agreed by us in
January 2009.  We believe this lawsuit to have limited merits and we shall
vigorously defend such lawsuit. If however we are unsuccessful in defending the
lawsuit, we may be required to pay damages and we may potentially lose our
ownership of Techwell.




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





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




On
January 23, 2009 an ex-parte injunction order was granted to Mr. Ng, restraining
us from implementing the Resolution, which was eventually dismissed with
immediate effect on February 25, 2009 after a court session in the High Court of
Hong Kong. Mr. Ng was also ordered to bear the costs of the various court
proceedings in connection with the said injunction order. On March 27,
2009, Mr. Ng and Miss Yam filed a summons in the High Court of Hong Kong seeking
a court order for leave to join our principal shareholder, KGE Group Limited, as
a defendant of the said lawsuit.




We intend
to vigorously defend this pending lawsuit; however, no assurance can be given
that the lawsuit will be resolved in our favor.  Even if we successfully
defend the lawsuit, we may incur substantial costs defending or settling the
lawsuit, in addition to a possible diversion of the time and attention of our
management from our business.  If we are unsuccessful in defending the
lawsuit, we may be required to pay a significant amount of damages and/or we may
potentially lose ownership of Techwell, which will have a material adverse
effect on our business, financial condition or results of
operations.




If
we acquire or invest in other businesses or other assets, we may be unable to
integrate them with our business, our financial performance may be impaired or
we may not realize the anticipated financial and strategic goals for such
transactions.





If
appropriate opportunities present themselves, we may acquire or make investments
in businesses and other assets that we believe are strategic. We may not be able
to identify, negotiate or finance any future acquisition or investment
successfully. Even if we do succeed in acquiring or investing in a business or
other asset, such acquisitions and investments involve a number of risks,
including:





·
            retaining
      key employees and maintaining the key business and customer relationships
      of the businesses we acquire;




·
            cultural
      challenges associated with integrating employees from an acquired company
      or business into our organization;




·
            the
      possibility that the combined company would not achieve the expected
      benefits, including any anticipated operating and product synergies, of
      the acquisition as quickly as anticipated or that the costs of, or
      operational difficulties arising from, an acquisition would be greater
      than anticipated;




·
            significant
      acquisition-related accounting adjustments or charges, particularly
      relating to an acquired company's deferred revenue, that may cause
      reported revenue and profits of the combined company to be lower than the
      sum of their stand-alone revenue and
profits;




·
            the
      need to integrate an acquired company's accounting, management
      information, human resource and other administrative systems to permit
      effective management and timely reporting, and the need to implement or
      remediate controls, procedures and policies appropriate for a public
      company in an acquired company that, prior to the acquisition, lacked
      these controls, procedures and policies;
and




·
            litigation
      or other claims in connection with, or inheritance of claims or litigation
      risks as a result of, an acquisition, including claims from terminated
      employees, customers or other third
parties.




Future
acquisitions and investments could also involve the issuance of our equity and
equity-linked securities (potentially diluting our existing stockholders), the
incurrence of debt, contingent liabilities or amortization expenses, write-offs
of goodwill, intangibles, or acquired in-process technology, or other increased
cash and non-cash expenses such as stock-based compensation. Any of the
foregoing factors could harm our financial condition or prevent us from
achieving improvements in our financial condition and operating performance that
could have otherwise been achieved by us on a stand-alone basis. Our
stockholders may not have the opportunity to review, vote on or evaluate future
acquisitions or investments.





Our business activities may require
our employees to travel to and work in high security risk countries, which may
result in employee death or injury, repatriation costs or other unforeseen
costs.





As a
multinational company, our employees often travel to and work in high security
risk countries around the world that are undergoing political, social and
economic upheavals resulting in war, civil unrest, criminal activity or acts of
terrorism.  As the size and scope our international projects have
grown, so has the number of our employees that are required to work in high-risk
countries. Currently we have approximately 31 employees working in Doha, Qatar
and 66 employees in Dubai, UAE. During the peak construction period, we will
have about 52 installation workers in Doha and about 400 installation workers in
Dubai, which will consist of about 25% full-time company employees (engineers,
project managers and supervisors) and 75% non-company contract
labor.  As a result, we may be subject to costs related to employee
death or injury, repatriation or other unforeseen
circumstances.


14


Force majeureevents,
including natural disasters and terrorists’ actions have negatively impacted and
could further negatively impact the economies in which we operate, which may
affect our financial condition, results of operations or cash
flows.





Force majeure events,
including natural disasters, such as Typhoon Pai Bi An that affected the
Southeastern China Coast in August 2006 and terrorist attacks, such as those
that occurred in New York and Washington, D.C. on September 11, 2001, could
negatively impact the economies in which we operate.





We
typically remain obligated to perform our services after a terrorist action or
natural disaster unless the contract contains a force majeureclause that
relieves us of our contractual obligations in such an extraordinary event. If we
are not able to react quickly to force majeure, our operations
may be affected significantly, which would have a negative impact on our
financial condition, results of operations or cash flows.




We
may suffer as a result of product liability or defective products.





We may
produce products which injure or kill individuals despite proper testing.
Existing PRC, Qatar and UAE laws and regulations do not require us to maintain
third party liability insurance to cover product liability claims. In the United
States and Australia, we are required to maintain third party liability
insurance. However, if a product liability claim is brought against us, it may,
regardless of merit or eventual outcome, result in damage to our reputation,
breach of contract with our customers, decreased demand for our products, costly
litigation, product recalls, loss of revenue, and the inability to commercialize
some products.





We
incur costs to comply with environmental laws and have liabilities for
environmental cleanups.





Because
we have air emissions, discharge wastewater, and handle hazardous substances and
solid waste at our fabrication facilities, we incur costs and liabilities to
comply with environmental laws and regulations and may incur significant
additional costs as those laws and regulations change in the future or if there
is an accidental release of hazardous substances into the environment. The
operations of our fabrication facilities are subject to stringent and complex
environmental laws and regulations that regulate the cleanup of hazardous
substances that may have been released at properties currently or previously
owned or operated by us or locations to which we have sent waste for disposal.
Failure to comply with these laws and regulations may trigger a variety of
administrative, civil and criminal enforcement measures, including the
assessment of monetary penalties, the imposition of remedial requirements, and
the issuance of orders enjoining future operations.





If our partners fail to perform their
contractual obligations on a project, we could be exposed to legal liability,
loss of reputation or reduced profits.





We
sometimes enter into subcontracts, joint ventures and other contractual
arrangements with outside partners to jointly bid on and execute a particular
project. The success of these joint projects depends upon, among other things,
the satisfactory performance of the contractual obligations of our partners. If
any of our partners fails to satisfactorily perform its contractual obligations,
we may be required to make additional investments and provide additional
services to complete the project. If we are unable to adequately address our
partner’s performance issues, then our client could terminate the joint project,
exposing us to legal liability, loss of reputation or reduced
profits.





We
are dependent on certain key personnel and loss of these key personnel could
have a material adverse effect on our business, financial condition and results
of operations.





Our
success is, to a certain extent, attributable to the management, sales and
marketing, and operational expertise of key personnel.  Key personnel
include, but is not limited to, Luo Ken Yi, our Chief Executive Officer, Tang
Nianzhong, our Vice General Manager, and Ye Ning, our Vice General Manager, each
of whom perform vital functions in the operation of our business. There can be
no assurance that we will be able to retain these managers after the term of
their employment contracts expire. The loss of these managers could have a
material adverse effect upon our business, financial condition, and results of
operations. We must attract, recruit and retain a sizeable workforce of
technically competent employees. Our ability to effectively implement our
business strategy will depend upon, among other factors, the successful
recruitment and retention of additional highly skilled and experienced
management and other key personnel. We cannot assure you that we will be able to
hire or retain such employees.


15


We
cannot guarantee the protection of our intellectual property rights and if
infringement or counterfeiting of our intellectual property rights occurs, our
reputation and business may be adversely affected.





Our
success depends in part on our ability to preserve our patents and trade secrets
and operate without infringing the proprietary rights of third parties. We
currently own seven-six patents, of which forty-nine are approved, six are
pending approval and twenty-one are in the application stage. Of the forty-nine
approved, forty-nine are in China and seven are in the US, Europe, Japan and
Hong Kong. If we fail to maintain our patents and trade secret protections, we
may not be able to prevent third parties from using our proprietary rights. In
addition, our issued patents may not contain claims sufficiently broad to
protect us against third parties with similar technologies or products or
provide us with any competitive advantage. If a third party initiates litigation
regarding our patents, and is successful, a court could revoke our patents or
limit the scope of coverage for those patents. We also rely upon trade secrets,
proprietary know-how and continuing technological innovation to remain
competitive. We attempt to protect this information with security measures such
as the use of confidentiality agreements with our employees, consultants and
corporate collaborators. It is possible that these individuals will breach these
agreements and that any remedies for a breach will be insufficient to allow us
to recover our costs. Furthermore, our trade secrets, know-how and other
technology may otherwise become known or be independently discovered by our
competitors.





Furthermore,
we have registered and applied for registration of our trademarks in the PRC,
where we have a substantial business presence, to protect the reputation of our
products. Our products are sold under these trademarks. There is no assurance
that there will not be any infringement of our brand name or other registered
trademarks or counterfeiting of our products in the future. Should any such
infringement or counterfeiting occur, our reputation and business may be
adversely affected. We may also incur significant expenses and substantial
amounts of time and effort to enforce our intellectual property rights in the
future. Such diversion of our resources may adversely affect our existing
business and future expansion plans.





We
enjoyed certain preferential tax concessions and loss of these preferential tax
concessions may cause our tax liabilities to increase and our profitability to
decline.





We have
historically enjoyed preferential tax concessions in the PRC as a high-tech
enterprise. The PRC Enterprise Income Tax Law (the “EIT Law”) was enacted on
March 16, 2007. Under the EIT Law, which became effective on January 1, 2008,
China adopted a uniform tax rate of 25.0% for all enterprises (including
foreign-invested enterprises) and canceled several tax incentives enjoyed by
foreign-invested enterprises. However, for foreign-invested enterprises
established before the promulgation of the EIT Law, a five-year transition
period is provided during which reduced rates will apply but gradually be phased
out. Because we are classified as high tech foreign-invested enterprise, prior
to 2008 we were subject to a 15% preferential tax rate in China. We believe that
our tax rate will gradually increase to 25% during a five-year transition period
commencing in 2008 until it reaches 25% in 2012. Further, any future increase in
the enterprise income tax rate applicable to us or other adverse tax treatments,
such as the discontinuation of preferential tax treatments for high and new
technology enterprises altogether, would have a material adverse effect on our
results of operations and financial condition.




RISKS
RELATED TO US DOING BUSINESS IN CHINA





Substantially
all of our assets are located in China and substantially all of our revenues are
derived from our operations in China, and changes in the political and economic
policies of the PRC government could have a significant impact upon the business
we may be able to conduct in the PRC and the results of operations and financial
condition.





Our
business operations may be adversely affected by the current and future
political environment in the PRC. The PRC has operated as a socialist state
since the mid-1900s and is controlled by the Communist Party of China. The
Chinese government exerts substantial influence and control over the manner in
which we must conduct our business activities. The PRC has only permitted
provincial and local economic autonomy and private economic activities since the
late-1970s. The government of the PRC has exercised and continues to exercise
substantial control over virtually every sector of the Chinese economy through
regulation and state ownership. Our ability to operate in China may be adversely
affected by changes in Chinese laws and regulations, including those relating to
taxation, import and export tariffs, raw materials, environmental regulations,
land use rights, property and other matters. Under current leadership, the
government of the PRC has been pursuing economic reform policies that encourage
private economic activity and greater economic decentralization. There is no
assurance, however, that the government of the PRC will continue to pursue these
policies, or that it will not significantly alter these policies from time to
time without notice.





Failure
to comply with the United States Foreign Corrupt Practices Act could subject us
to penalties and other adverse consequences.





We are
subject to the United States Foreign Corrupt Practices Act, which generally
prohibits United States companies from engaging in bribery or other prohibited
payments to foreign officials for the purpose of obtaining or retaining
business. In addition, we are required to maintain records that accurately and
fairly represent our transactions and have an adequate system of internal
accounting controls. Foreign companies, including some that may compete with us,
are not subject to these prohibitions, and therefore may have a competitive
advantage over us. Corruption, extortion, bribery, pay-offs, theft and other
fraudulent practices occur from time-to-time in the PRC, particularly in our
industry since it involves obtaining project contracts from the government of
China and other countries.  Our executive officers and employees have
not been subject to the United States Foreign Corrupt Practices Act prior to
2007. We can make no assurance that our employees or other agents will not
engage in such conduct for which we might be held responsible. If our employees
or other agents are found to have engaged in such practices, we could suffer
severe penalties and other consequences that may have a material adverse effect
on our business, financial condition and results of operations.


16


The PRC laws and regulations
governing our current business operations are
sometimes vague and uncertain. Any changes in such PRC laws and regulations may
have a material and adverse effect on our business.





The PRC’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 PRC 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
a foreign persons or foreign funded enterprise under PRC laws, and as a result,
we are required to comply with PRC laws and regulations. We cannot predict what
effect the interpretation of existing or new PRC laws or regulations may have on
our businesses. If the relevant authorities find us in violation of PRC 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 in the Chinese economy or an increase in its inflation rate may slow
down our growth and profitability.





The
Chinese economy has grown at a rate of approximately 9% for more than 25 years,
making it the fastest growing major economy in recorded history. In 2007,
China's economy grew by approximately 11.4%, the fastest pace in more than a
decade, according the National Bureau of Statistics. In particular, China's
construction industry had grown dramatically in that year.  We cannot
assure you that growth of the Chinese economy will be steady, that inflation
will be controllable or that any slowdown in the economy or uncontrolled
inflation will not have a negative effect on our business. Several years ago,
the Chinese economy experienced deflation, which may recur in the future. More
recently, the Chinese government announced its intention to continuously use
macroeconomic tools and regulations to slow the rate of growth of the Chinese
economy, the results of which are difficult to predict. Adverse changes in the
Chinese economy will likely impact the financial performance of a variety of
industries in China that use or would be candidates to use our products. If such
adverse changes were to occur, our customers and potential customers could
reduce spending on our products and services.





PRC
regulations relating to acquisitions of PRC companies by foreign entities has
created regulatory uncertainties that could restrict or limit our ability to
operate. Our failure to obtain the prior approval of the China Securities
Regulatory Commission, or the CSRC, for the listing and trading of our common
stock on a national securities exchange in the United States could have a
material adverse effect on our business, operating results, reputation and
trading price of our common stock.




Within
the last five years, the PRC government has, on several occasions, amended its
regulations relating to overseas listings of PRC businesses. Most recently, on
August 8, 2006, six PRC regulatory agencies, including the Ministry of Commerce,
the State Administration for Industry and Commerce, CSRC and SAFE, jointly
issued the Regulations on Mergers and Acquisitions of Domestic Enterprises by
Foreign Investors. This regulation became effective on September 8, 2006 and
includes provisions that purport to require offshore special purpose
vehicles:





(i)           
controlled directly or indirectly by PRC companies or citizens; and


(ii)          
formed for the purpose of effecting an overseas listing of a PRC
company





to obtain
the approval of CSRC prior to the completion of the overseas listing. On
September 8, 2006, CSRC published procedures regarding the approval process
associated with overseas listings of special purpose vehicles. There is little
precedent as to how CSRC will interpret the new regulation and apply the related
procedures.




Our PRC
counsel, Guangdong Seagull Law Firm, has advised us that because we completed
our restructuring before September 8, 2006, the effective date of the new
regulation, it is not necessary for us to submit the application to the CSRC for
its approval, and the listing and trading of our Common Stock on a national
securities exchange does not require CSRC approval.


17


If the
CSRC or another PRC regulatory agency subsequently determines that CSRC approval
was required for our initial public offering that was completed on October 3,
2007, we may face regulatory actions or other sanctions from the CSRC or other
PRC regulatory agencies. These regulatory agencies may impose fines and
penalties on our operations in the PRC, limit our operating privileges in the
PRC, delay or restrict the repatriation of the proceeds from our initial public
offering or subsequent offerings into the PRC, or take other actions that could
have a material adverse effect on our business, financial condition, results of
operations, reputation and prospects, as well as the trading price of our Common
Stock.





These new
rules may significantly affect the means by which offshore-onshore
restructurings are undertaken in China in connection with offshore private
equity and venture capital financings, mergers and acquisitions. It is expected
that such transactional activity in China in the near future will require
significant case-by-case guidance from Ministry of Commerce and other government
authorities as appropriate. Given the uncertainties regarding interpretation and
application of the new rules, we may need to expend significant time and
resources to maintain compliance. It is uncertain how our business operations or
future strategy will be affected by the interpretations and implementation of
these new rules. Our business operations or future strategy could be adversely
affected by these new rules. For example, we may be subject to more stringent
review and approval process with respect to our foreign exchange
activities.





If
we make equity compensation grants to persons who are PRC citizens, they may be
required to register with the State Administration of Foreign Exchange of the
PRC, or SAFE. We may also face regulatory uncertainties that could restrict our
ability to adopt additional equity compensation plans for our directors and
employees and other parties under PRC law.





On April
6, 2007, SAFE issued the “Operating Procedures for Administration of Domestic
Individuals Participating in the Employee Stock Ownership Plan or Stock Option
Plan of An Overseas Listed Company, also know as “Circular 78.” It is not clear
whether Circular 78 covers all forms of equity compensation plans or only those
which provide for the granting of stock options. For any plans which are so
covered and are adopted by a non-PRC listed company, such as our company, after
April 6, 2007, Circular 78 requires all participants who are PRC citizens to
register with and obtain approvals from SAFE prior to their participation in the
plan. In addition, Circular 78 also requires PRC citizens to register with SAFE
and make the necessary applications and filings if they participated in an
overseas listed company’s covered equity compensation plan prior to April 6,
2007. We believe that the registration and approval requirements contemplated in
Circular 78 will be burdensome and time consuming.




Although
we have not made any equity compensation grants to PRC residents under our 2007
Equity Incentive Plan, future participants of our equity incentive plan or any
other equity compensation plan we may adopt who are PRC citizens may be required
to register with SAFE. We have officers, directors, and employees that are
eligible to receive grants under our equity incentive plan who are also PRC
citizens. If it is determined that any of our equity incentive plan is subject
to Circular 78, failure to comply with such provisions may subject us and
participants of our equity incentive plan who are PRC citizens to fines and
legal sanctions and prevent us from being able to grant equity compensation to
our PRC employees. In that case, our business operations may be adversely
affected.





Any
recurrence of Severe Acute Respiratory Syndrome (SARS), Avian Flu, or another
widespread public health problem, in the PRC could adversely affect our
operations.





A renewed
outbreak of Severe Acute Respiratory Syndrome, Avian Flu or another widespread
public health problem in China, where all of our manufacturing facilities are
located and where all of our sales occur, could have a negative effect on our
operations. Such an outbreak could have an impact on our operations as a result
of:





·
            quarantines
      or closures of some of our manufacturing facilities, which would severely
      disrupt our operations,





·
            the
      sickness or death of our key officers and employees,
  and





·
            a
      general slowdown in the Chinese
economy.




Any of
the foregoing events or other unforeseen consequences of public health problems
could adversely affect our operations.





If
we fail to maintain effective internal controls over financial reporting, the
price of our common stock may be adversely affected.





PRC
companies have historically not adopted a Western style of management and
financial reporting concepts and practices, which includes strong corporate
governance, internal controls and, computer, financial and other control
systems. In addition, we may have difficulty in hiring and retaining a
sufficient number of qualified employees to work in the PRC. As a result of
these factors, we may experience difficulty in establishing management, legal
and financial controls, collecting financial data and preparing financial
statements, books of account and corporate records and instituting business
practices that meet Western standards. Therefore, we may, in turn, experience
difficulties in implementing and maintaining adequate internal controls as
required under Section 404 of the Sarbanes-Oxley Act of 2002. This may result in
significant deficiencies or material weaknesses in our internal controls which
could impact the reliability of our financial statements and prevent us from
complying with SEC rules and regulations and the requirements of the
Sarbanes-Oxley Act of 2002. Any actual or perceived weaknesses and conditions
that need to be addressed in our internal control over financial reporting,
disclosure of management’s assessment of our internal controls over financial
reporting or disclosure of our public accounting firm’s attestation to or report
on management’s assessment of our internal controls over financial reporting may
have an adverse impact on the price of our common stock.


18


You
may experience difficulties in effecting service of legal process, enforcing
foreign judgments or bringing original actions in China based upon U.S. laws,
including the federal securities laws or other foreign laws against us or our
management.




Most of
our current operations are conducted in China. Moreover, most of our directors
and officers are nationals and residents of China. All or substantially all of
the assets of these persons are located outside the United States and in the
PRC. As a result, it may not be possible to effect service of process within the
United States or elsewhere outside China upon these persons. In addition,
uncertainty exists as to whether the courts of China would recognize or enforce
judgments of U.S. courts obtained against us or our officers and/or directors
predicated upon the civil liability provisions of the securities law of the
United States or any state thereof, or be competent to hear original actions
brought in China against us or such persons predicated upon the securities laws
of the United States or any state thereof.





The
ability of our Chinese operating subsidiaries to pay dividends may be restricted
due to foreign exchange control regulations of China.





The
ability of our Chinese operating subsidiaries to pay dividends may be restricted
due to the foreign exchange control policies and availability of cash balance of
the Chinese operating subsidiaries. Because substantially all of our operations
are conducted in China and a majority of our revenues are generated in China,
all of our revenue being earned and currency received are denominated in
Renminbi (RMB). RMB is subject to the exchange control regulation in China, and,
as a result, we may unable to distribute any dividends outside of China due to
PRC exchange control regulations that restrict our ability to convert RMB into
US Dollars.





RISKS
RELATED TO OUR SECURITIES AND RELATED REGULATIONS





Our
stock price is volatile and you might not be able to sell your securities at or
above the price you have paid.





Since our
initial public offering and listing of our Common Stock in October 2007, the
price at which our common stock had traded has been highly volatile, with a high
and low sales price of $0.60 and $27.25, respectively, as through March 31,
2009. You might not be able to sell the shares of our common stock at or above
the price you have paid. The stock market has experienced extreme volatility
that often has been unrelated to the performance of its listed companies.
Moreover, only a limited number of our shares are traded each day, which could
increase the volatility of the price of our stock. These market fluctuations
might cause our stock price to fall regardless of our performance.





The
market price of our Common Stock might fluctuate significantly in response to
many factors, some of which are beyond our control, including, but not limited
to, the following:




·
            actual
      or anticipated fluctuations in our annual and quarterly results of
      operations;





·
            variations
      in our operating results, which could cause us to fail to meet analysts’
      or investors’ expectations;





·
            conditions
      and trends in our industry and the
economy;





·
            future
      sales of equity or debt securities, including sales which dilute existing
      investors.




Shares
eligible for future sale may adversely affect the market price of our common
stock, as the future sale of a substantial amount of outstanding stock in the
public marketplace could reduce the price of our common stock.





The
market price of our Common Stock could decline as a result of sales of a large
number of shares of our common stock in the market or the perception that these
sales could occur. These sales, or the possibility that these sales may occur,
also might make it more difficult for us to sell equity securities in the future
at a time and at a price that we deem appropriate.





As of
December 31, 2008, we had approximately 53.3 million shares of Common Stock
outstanding, and approximately 19.4 million have been registered and are freely
tradable without further restriction under the Securities Act of 1933, as
amended, by persons other than our affiliates (within the meaning of Rule 144
under the Securities Act). In addition, we registered a total of 5.7 million
shares of common stock that are issuable upon the conversion and exercise of
outstanding bonds and warrants.   All of the shares included in
the effective registration statement as described above may be freely sold and
transferred except if subject to a lock up agreement.


19


Our
principal stockholder holds 33,122,554 shares which may be sold subject to Rule
144. Under Rule 144, an affiliate stockholder who has satisfied a the required
holding period may, under certain circumstances, sell within any three-month
period a number of securities which does not exceed the greater of 1% of the
then outstanding shares of common stock or the average weekly trading volume of
the class during the four calendar weeks prior to such sale. As of December 31,
2008, 1% of our issued and outstanding shares of common stock was approximately
532,569 shares. Non-affiliate stockholders are not subject to volume
limitations. Any substantial sale of common stock pursuant to any resale
prospectus or Rule 144 may have an adverse effect on the market price of our
Common Stock by creating an excessive supply.





Our
principal stockholder has significant influence over us.




As of
March 31, 2009, our largest shareholder, KGE Group Limited, or KGE Group,
beneficially owns or controls approximately 62% of our outstanding
shares.  Luo Ken Yi, who is our Chief Executive Officer and Chairman
of the Board, and Ye Ning, who is our Vice General Manager and a director, are
directors of KGE Group. In addition, Luo Ken Yi and Ye Ning own approximately
70% and 10%, respectively, of KGE Group’s issued and outstanding
shares.  As a result of its holding, KGE Group has controlling
influence in determining the outcome of any corporate transaction or other
matters submitted to our shareholders for approval, including mergers,
consolidations and the sale of all or substantially all of our assets, election
of directors, and other significant corporate actions. KGE Group also has the
power to prevent or cause a change in control. In addition, without the consent
of KGE Group, we could be prevented from entering into transactions that could
be beneficial to us. The interests of KGE Group, and its control persons, may
differ from the interests of our shareholders.




Mandatory
redemption of the bonds could have a material adverse effect on our liquidity
and cash resources.





If we are
required to redeem all or any portion of the $8 million and $20 million
outstanding bonds, this may have a material adverse effect on our liquidity and
cash resources, and may impair our ability to continue to operate. In addition,
at any time after April 12, 2010, each holder of the 2007 Bonds can require us
to redeem the 2007 Bonds at 126.51% of the principal amount of the 2007 Bonds
and we are required to redeem any outstanding 2007 Bonds at 150.87% of its
principal amount on April 4, 2012.  Also, on April 15 and October 15
of each year on or after April 15, 2010, the holders of the 2008 Bonds may
require us to redeem the 2008 Bonds at 116.61% of their principal
amount.  We are required to redeem any outstanding 2008 Bonds at
116.61% of its principal amount on April 15, 2011.  If a triggering
event occurs and we are requested by the holders to repurchase all or a portion
of the 2007 or 2008 Bonds, we will be required to pay cash to redeem all or a
portion of the bonds.  If we are required to repurchase all or a
portion of the bonds and do not have sufficient cash to make the repurchase, we
may be required to obtain third party financing to do so, and there can be no
assurances that we will be able to secure financing in a timely manner and on
favorable terms, which could have a material adverse effect on our financial
performance, results of operations and stock price.





We
issued $30 million in convertible bonds that include features that will have the
effect of reducing our reported operating results during the term of the
bonds.





We issued
$10,000,000 Variable Rate Convertible Bonds due in 2012 in April 2007 (the “2007
Bonds”) and $20,000,000 12% Convertible Bonds due in 2011 in April 2008 (the
“2008 Bonds”). At of March 31, 2009, $2 million of the 2007 Bonds have been
converted.  The terms of 2007 Bonds and 2008 Bonds include conversion
features allowing the holders to convert the bonds into shares of our common
stock. Certain of those conversion features that allow for the reduction in
conversion price upon the occurrence of stated events constitute a “beneficial
conversion feature” for accounting purposes.  The accounting treatment
related to the beneficial conversion and mandatory redemption features of the
2007 and 2008 Bonds and the value of the 2007 and 2008 Bond Warrants will have
an adverse impact on our results of operations for the term of the bonds. The
application of Generally Accepted Accounting Principles required us to allocate
approximately $2,171,429 to the beneficial conversion feature of the 2007 Bonds,
and $2,183,000 and $1,413,503 to the 2007 Bonds Warrants and 2008 Bond Warrants,
respectively, which have been reflected in our financial statements as an
interest discount. Also, we have determined that the total redemption premium
associated with the mandatory redemption feature of the 2007 and 2008 Bonds is
$4,069,600 and $3,322,000, respectively. All of the aforementioned amounts
associated with the beneficial conversion and mandatory redemption feature of
the bonds and the value of the bond warrants are being amortized as additional
interest expense over the term of the bonds. This accounting will result in an
increase in interest expense in all reporting periods during the term of the
bonds, and, as a result, reduce our net income accordingly.





There
are limited restrictive covenants in the Trust Deeds governing our outstanding
bonds relating to our ability to incur future indebtedness.





Each of
the Trust Deeds for the bonds that we issued in 2007 and 2008 does not limit our
ability to incur indebtedness, except that as long as any of such bonds remains
outstanding, we agreed not to create any encumbrance upon our present or future
assets or revenues to secure any indebtedness or to secure any guarantee of or
indemnity in respect of any such indebtedness unless our obligations under the
bonds are secured by the same encumbrance or have the benefit from a guarantee
or indemnity in substantially identical terms. The Trust Deeds governing the
bonds do not contain any financial or operating covenants or restrictions on the
payment of dividends, incurrence of indebtedness (other than as stated above),
transactions with affiliates, incurrence of liens, or the issuance or repurchase
of securities by us or any of our subsidiaries. We, therefore, may incur
additional debt, including secured indebtedness or indebtedness by, or other
obligations of, our subsidiaries to which the bonds would be structurally
subordinate. A higher level of indebtedness increases the risk that we may
default on our indebtedness. We cannot assure you that we will be able to
generate sufficient cash flow to pay the interest on our indebtedness or that
future working capital, borrowings or equity financing will be available to pay
or refinance such indebtedness.


20


Our
officers and directors have limited experience in public company reporting and
financial accounting, which could impair our ability to satisfy public company
filing requirements and increase our securities compliance costs.





Our
officers and directors have limited experience as officers and directors of a
publicly traded company, or in complying with the regulatory requirements
applicable to a public company. As a result, we could have difficulty satisfying
the regulatory requirements applicable to public companies, which could
adversely affect the market for our common stock. At present, we rely upon
outside experts to advise us on matters relating to financial accounting and
public company reporting. While we believe that it will be possible to satisfy
our public company reporting requirements through the use of third party
experts, our general and administrative costs will remain higher to the extent
our officers alone are not able to satisfy our public company reporting
requirements.





If
we fail to comply with Section 404 of the Sarbanes-Oxley Act Of 2002, our
business could be harmed and our stock price could decline.




Rules
adopted by the SEC pursuant to Section 404 of the Sarbanes-Oxley Act of 2002
require annual assessment of our internal control over financial reporting, and
attestation of this assessment by our company’s independent registered public
accountants.  Last year’s 2007 annual report on Form 10-K contained
our first annual assessment of our internal controls requirement and this annual
report on Form 10-K for 2008 contains our first attestation requirement of
management’s assessment by our independent registered public accountants. The
standards that must be met for management to assess the internal control over
financial reporting as effective are new and complex, and require significant
documentation, testing and possible remediation to meet the detailed standards.
We may encounter problems or delays in completing activities necessary to make
an assessment of our internal control over financial reporting.  In
addition, the attestation process by our independent registered public
accountants is new and we may encounter problems or delays in completing the
implementation of any requested improvements and receiving an attestation of our
assessment by our independent registered public accountants. If we cannot assess
our internal control over financial reporting as effective, or our independent
registered public accountants are unable to provide an unqualified attestation
report on such assessment, investor confidence and share value may be negatively
impacted.





As more
fully discussed in Item 9A of this Form 10-K, management’s assessment of our
internal control over financial reporting identified numerous material
weaknesses that rendered our internal control over financial reporting to be
ineffective as of December 31, 2008.  A material weakness is a
deficiency, or a combination of deficiencies, in internal control over financial
reporting, such that there is a reasonable possibility that a material
misstatement of the company’s annual or interim financial statements will not be
prevented or detected on a timely basis.  Our material weaknesses
include, but are not limited to, a lack of technical expertise and processes to
ensure compliance with our policies in a major operating subsidiary,
insufficient complement of personnel with an appropriate knowledge and skill to
comply with our specific engineering financial accounting and reporting
requirements and low materiality thresholds, and noncompliance with our
authorization policy.  While we have implemented steps to remediate
the identified deficiencies, as disclosed in Item 9A of this Form 10-K, there
can be no guarantee that we will be successful in our attempts to correct our
significant deficiencies. Our identified material weaknesses may raise concerns
for investors and may have an adverse impact on the price of our common
stock.




We
do not foresee paying cash dividends in the foreseeable future.




We do not
plan to declare or pay any cash dividends on our shares of common stock in the
foreseeable future and we currently intend to retain any future earnings for
funding growth. As a result, you should not rely on an investment in our
securities if you require dividend income. Capital appreciation, if any, of our
shares may be your sole source of gain for the foreseeable future. Moreover, you
may not be able to sell your shares in our company at or above the price you
paid for them.





ITEM
1B.  UNRESOLVED STAFF COMMENTS





Not
applicable.





ITEM
2. PROPERTIES





We have
offices and processing factories in Zhuhai, Shenzhen, Guangzhou, Shanghai,
Beijing, Wuhan, Tianjin and Chengdu in China, a corporate office in Hong Kong,
one office in Sydney, Australia, one office in Singapore, one office in New
York, U.S.A. and one in Dubai, UAE.  All buildings and land are
leased. The leases end around 2010, and we have the right to renew. The central
office is in Shenzhen, where the majority of design and engineering staff are
located. The Zhuhai, Beijing and Shanghai offices have smaller design teams as
well. All offices are also sales centers for the area. The two factories, which
are located in, Zhuhai and Shunde, are used for further processing certain
curtain wall components before they are shipped to the construction
site.


21




Hong
      Kong63rd
      Floor, Bank of China Tower, 1 Garden Road
                          
                          577.7
      square meters (office)Central,
      Hong KongZhuhai105
      Baishi Road, Jiuzhou West Avenue, Zhuhai, Guangdong
                          
                          1,080
      square meters (office)1,700
      square meters (factory)Beijing2nd
      floor, Jianbang Building, phase 1, No.19 South Lishi Road
                          
                          646
      square meters (office)XiCheung
      district, Beijing cityShanghaiRoom
      501 business center, Shanghai hotel, No.505 north of Wulumuqi road,
      shanghai city
                          
                          250
      square meters (office)ShundeNo.5
      Technology area, Xingtan town, Shunde district, Fo Shan
    City
                          
                          5,600
      square meters (office & factory)ShenzhenNortheast
      Block B-2, East Industrial Park, Overseas Chinese Town, Nanshan,
      Shenzhen
                          
                          6,153
      square meters (office)WuhanFloor
      38, No. 568 Jianshe road, Wu Han International Trade Center, Jianghan
      district,WuHan
      city
                          
                          200
      square meters (office)TianjinRm
      1906, No.2 Jinhaian building, Jinwei road,Hebei
      district, Tianjin city
                          
                          140
      square meters (office)Guangzhou101
      Chengjian building, 189 Tiyuxi road, Tianhe district, Guangzhou
      city
                          
                          357
      square meters (office)ChengduNo.4
      Changshou road, Wuhou distict, Chengdu city
                          
                          95
      square meters (office)Hurstville,
      AustraliaSuite
      203 Level 2 4-8 Woodville Street, Hurstville, NSW 2220
                          
                          100
      square meters (office)Dubai,
      UAERoom
      603 Ahmed Saeed Abdullah Belhab Al Amri Building Bin #1979 Road 60 Al
      Barsha First, Dubai UAE
                          
                          100
      square meters (office)New
      York City, U.S.A
                            110
      Wall St, 14th
      Floor, New York, NY 10005, USA
                          
                          312
      square meters (office)Singapore
                            25
      Tagore Lane #02-07, Singapore 787602
                          
                          213
      square meters
(office)





ITEM
3. LEGAL PROCEEDINGS





Pursuant
to a Stock Purchase Agreement dated November 7, 2007, the previous shareholders
of Techwell, Mr. Ng, Chi Sum and Miss Yam, Mei Ling Maria agreed to sell 100% of
the shares in Techwell to us for approximately $11.7 million in cash and shares
of common stock of our company. Subsequent to the said acquisition, Mr. Ng and
Miss Yam were employed by Techwell.
 
 On January 14, 2009, the board of
directors of Techwell passed a board resolution, to dismiss both Mr. Ng and Miss
Yam with immediate effect and remove Mr. Ng from the board of Techwell (the
“Resolution”).  On January 16, 2009, Mr. Ng and Miss
Yam filed a lawsuit in the High Court of Hong Kong against us and our
subsidiary, Full Art International Limited.  The lawsuit alleges that,
inter alia, (i) we misrepresented to them the financial status of our company
and operations during the course the acquisition of Techwell was being
negotiated; (ii) we failed to perform our obligations under a settlement
agreement alleged to be agreed by us in January 2009; and (iii) the dismissal of
Mr. Ng was unlawful and invalid.
  On
January 23, 2009 an ex-parte injunction order was granted to Mr. Ng, restraining
us from implementing the Resolution, which was eventually dismissed with
immediate effect on February 25, 2009 after a court session in the High Court of
Hong Kong. Mr. Ng was also ordered to bear the costs of the various court
proceedings in connection with the said injunction order. On March 27,
2009, Mr. Ng and Miss Yam filed a summons in the High Court of Hong Kong seeking
a court order for leave to join our principal shareholder, KGE Group Limited, as
a defendant of the said lawsuit.
  We intend
to vigorously defend this pending lawsuit; however, no assurance can be given
that the lawsuit will be resolved in our favor.  Even if we successfully
defend the lawsuit, we may incur substantial costs defending or settling the
lawsuit, in addition to a possible diversion of the time and attention of our
management from our business.  If we are unsuccessful in defending the
lawsuit, we may be required to pay a significant amount of damages and/or we may
potentially lose ownership of Techwell, which will have a material adverse
effect on our business, financial condition or results of
operations.


22


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





No
matters were submitted to the security holders to be voted on during the fourth
quarter of 2008.





PART II





ITEM
5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER
PURCHASES OF EQUITY SECURITIES





From
September 28, 2007 to June 9, 2008, our shares of common stock were listed for
trading on the NYSE Amex under the ticket symbol “RCH.”  On June 10,
2008, our common stock commenced trading on the NASDAQ Global Select Market
under the symbol "CAEI." As of March 15, 2009, we had 22 shareholders of record.
This
number does not include an indeterminate number of shareholders whose shares are
held by brokers in street name.




On March
27, 2009, the closing sales price for our common stock on the NASDAQ Global
Select Market was $1.08 per share.





The
following table summarizes the high and low sales prices of our common stock as
reported by the NYSE Amex (on and prior to June 9, 2008) and NASDAQ (on and
after June 10, 2008).





High
                
                
                LowYear
      ended December 31, 2008Fourth
      Quarter
                
                $
                7.48
                
                
                $
                1.63Third
      Quarter
                
                $
                9.97
                
                
                $
                5.08Second
      Quarter
                
                $
                11.82
                
                
                $
                5.25First
      Quarter
                
                $
                9.10
                
                
                $
                4.75Year
      ended December 31, 2007Fourth
      Quarter
                
                $
                27.25
                
                
                $
                5.10Third
      Quarter (starting from September 28, 2007)
                
                $
                7.49
                
                
                $
                4.80





The price
of our common stock will likely fluctuate in the future. The stock market in
general has experienced extreme stock price fluctuations in the past few
years.  Please see
“Risk Factors—Our stock price is volatile and you might not be able to sell your
securities at or above the price you have paid.”




Dividend
Policy





We do not
expect to declare or pay any cash dividends on our common stock in the
foreseeable future, and we currently intend to retain future earnings, if any,
to finance the expansion of our business. The decision whether to pay cash
dividends on our common stock will be made by our board of directors, in their
discretion, and will depend on our financial condition, operating results,
capital requirements and other factors that the board of directors considers
significant. We did not pay any cash dividends during 2008 and
2007.  We paid approximately $1.6 million in cash dividends in
2006.





The
ability of our Chinese operating subsidiaries to pay dividends may be restricted
due to the foreign exchange control policies and availability of cash balance of
the Chinese operating subsidiaries. Because substantially all of our operations
are conducted in China and a majority of our revenues are generated in China,
substantially all of our revenue being earned and currency received are
denominated in Renminbi (RMB). RMB is subject to the exchange control regulation
in China, and, as a result, we may unable to distribute any dividends outside of
China due to PRC exchange control regulations that restrict our ability to
convert RMB into US Dollars.





Transfer
Agent





The
transfer agent and registrar for our common stock is Computershare Trust
Company.





Equity
Compensation Plan Information





Our
equity compensation plan information is provided as set forth in Part III, Item
11.


23


Recent
Sales of Unregistered Securities





None.





Additional
Information





Copies of
our annual reports, quarterly reports, current reports, and any amendments to
those reports, are available free of charge on the internet at www.sec.gov. All
statements made in any of our filings, including all forward-looking statements,
are made as of the date of the document in which the statement is included, and
we do not assume or undertake any obligation to update any of those statements
or documents unless we are required to do so by law.




24


ITEM
6. SELECTED FINANCIAL DATA





The
following selected consolidated statement of operations data for each of the
years in the five-year period ended December 31, 2008 and the consolidated
balance sheet data as of year-end for each of the years in the five-year period
ended December 31, 2008 were derived from the audited consolidated financial
statements. Such selected financial data should be read in conjunction with the
consolidated financial statements and the notes to the consolidated financial
statements starting on page F-1 and with Item 7, “Management’s Discussion and
Analysis of Financial Condition and Results of Operations.”





Year Ended December 31,Consolidated Statements of Income
              
              2008
              
              
              2007
              
              
              2006
              
              
              2005
              
              
              2004(in
      thousands, except share amounts and earnings per share)Contract
      revenues earned
              
              $
              151,666
              
              
              $
              86,617
              
              
              $
              63,359
              
              
              $
              49,515
              
              
              $
              28,816Cost
      of contract revenues earned
              
              
              (128,885
              )
              
              
              (64,354
              )
              
              
              (46,796
              )
              
              
              (36,368
              )
              
              
              (21,419
              )Gross
      profit
              
              $
              22,781
              
              
              $
              22,263
              
              
              $
              16,563
              
              
              $
              13,146
              
              
              $
              7,397Selling,
      general and administrative expenses
              
              
              (26,063
              )
              
              
              (5,525
              )
              
              
              (5,989
              )
              
              
              (6,463
              )
              
              
              (4,636
              )Non-recurring
      general and administrative expenses
              
              
              —
              
              
              
              —
              
              
              
              (3,806
              )
              
              
              —
              
              
              
              —Finance
      Expense
              
              
              —
              
              
              
              (208
              )
              
              
              —
              
              
              
              —
              
              
              
              —Income/(Loss)
      from operations
              
              $
              (3,282
              )
              
              $
              16,530
              
              
              $
              6,768
              
              
              $
              6,683
              
              
              $
              2,761Interest
      income
              
              
              1
              
              
              
              108
              
              
              
              —
              
              
              
              —
              
              
              
              63Interest
      expense
              
              
              (4,377
              )
              
              
              (2,145
              )
              
              
              —
              
              
              
              (117
              )
              
              
              (260
              )Other
      income
              
              
              1,922
              
              
              
              88
              
              
              
              700
              
              
              
              501
              
              
              
              136Other
      expenses
              
              
              (161
              )
              
              
              (127
              )
              
              
              —
              
              
              
              —
              
              
              
              —Income/(Loss)
      before taxation
              
              $
              (5,897
              )
              
              $
              14,455
              
              
              $
              7,468
              
              
              $
              7,068
              
              
              $
              2,700Income
      tax
              
              
              4
              
              
              
              (2,422
              )
              
              
              (1,318
              )
              
              
              (1,157
              )
              
              
              (491
              )Minority
      interests
              
              
              20
              
              
              
              —
              
              
              
              —
              
              
              
              —
              
              
              
              —Net
      income/(loss)
              
              $
              (5,873
              )
              
              $
              12,032
              
              
              $
              6,150
              
              
              $
              5,910
              
              
              $
              2,209Basic
      and diluted net income/(loss) per common share
              
              
              (0.11
              )
              
              
              0.24
              
              
              
              0.14
              
              
              
              0.14
              
              
              
              0.05Basic
      and diluted dividend paid per common share
              
              
              —
              
              
              
              —
              
              
              
              0.04
              
              
              
              0.06
              
              
              
              0.10Basic
      weighted average common shares outstanding
              
              
              52,034,921
              
              
              
              50,357,454
              
              
              
              44,679,990
              
              
              
              43,304,125
              
              
              
              43,304,125Diluted
      weighted average common shares outstanding
              
              
              52,034,921
              
              
              
              51,088,144
              
              
              
              44,679,990
              
              
              
              43,304,125
              
              
              
              43,304,125




December 31,Consolidated Balance Sheets
              2008
              
              2007
              
              2006
              
              2005
              
              2004(in
      thousands)Current
      Assets
              
              $
              127,607
              
              
              $
              84,988
              
              
              $
              43,821
              
              
              $
              21,712
              
              
              $
              17,454Total
      Assets
              
              
              141,538
              
              
              
              95,737
              
              
              
              44,861
              
              
              
              22,320
              
              
              
              18,642Current
      Liabilities
              
              
              66,770
              
              
              
              39,313
              
              
              
              21,784
              
              
              
              14,016
              
              
              
              13,916Long-term
      Debt
              
              
              25,237
              
              
              
              3,910
              
              
              
              2,565
              
              
              
              -
              
              
              
              -Total
      Liabilities
              
              
              92,017
              
              
              
              43,272
              
              
              
              24,349
              
              
              
              14,016
              
              
              
              13,916Total
      Stockholders' Equity
              
              
              49,521
              
              
              
              52,465
              
              
              
              20,513
              
              
              
              8,304
              
              
              
              4,725




25




ITEM 7. MANAGEMENT’S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS.




Forward-Looking
Statements





The
following discussion should be read in conjunction with our consolidated
financial statements and related notes included elsewhere in this report. This
report contains forward-looking statements. The words “anticipated,” “believe,”
“expect, “plan,” “intend,” “seek,” “estimate,” “project,” “could,” “may,” and
similar expressions are intended to identify forward-looking statements. These
statements include, among others, information regarding future operations,
future capital expenditures, and future net cash flow. Such statements reflect
our management’s current views with respect to future events and financial
performance and involve risks and uncertainties, including, without limitation,
general economic and business conditions, changes in foreign, political, social,
and economic conditions, regulatory initiatives and compliance with governmental
regulations, the ability to achieve further market penetration and additional
customers, and various other matters, many of which are beyond our control.
Should one or more of these risks or uncertainties occur, or should underlying
assumptions prove to be incorrect, actual results may vary materially and
adversely from those anticipated, believed, estimated or otherwise indicated.
Consequently, all of the forward-looking statements made in this report are
qualified by these cautionary statements and there can be no assurance of the
actual results or developments.





Overview





We were
incorporated in the state of Delaware on March 16, 2004. We were originally
organized as a “blank check” shell company to investigate and acquire a target
company or business seeking the perceived advantages of being a publicly held
corporation. On October 17, 2006, we closed a share exchange transaction
described below, pursuant to which we (i) became the 100% parent of Full Art
International, Ltd., a Hong Kong Company (“Full Art”), which has four
subsidiaries, including its wholly-owned subsidiary, Zhuhai King Glass
Engineering Co., Ltd., a company formed under the laws of the People’s Republic
of China (“PRC” or “China”), (ii) assumed the operations of Full Art and its
subsidiaries and (iii) changed our name from SRKP 1, Inc. to China Architectural
Engineering, Inc. Full Art was incorporated in Hong Kong on July 30, 1992 under
the Companies Ordinance of Hong Kong.





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





Our work
is performed under cost-plus-fee contracts and fixed-price contracts. The length
of our contracts varies but typically has a duration of approximately one to two
years. Approximately 95% of our sales are from-fixed price contracts. The
remaining 5% of our sales are from cost-plus-fee contracts. Under fixed-price
contracts, we receive a fixed price. Consequently, we realize a profit on
fixed-price contracts only if we control our costs and prevent cost over-runs on
the contracts. Approximately 70% of contracts are modified after they begin,
usually to accommodate requests from clients to increase project size and scope.
In cases where fixed-price contracts are modified, the fixed price is
renegotiated and adjusted upwards accordingly. Under cost-plus-fee contracts,
which may be subject to contract ceiling amounts, we are reimbursed for
allowable costs and fees, which may be fixed or performance-based. If our costs
exceed the contract ceiling or are not allowable under the provisions of the
contract or any applicable regulations, we may not be reimbursed for all our
costs.




Recent
Events





April
2008 Issuance of Bonds and Bond Warrants





On
April 15, 2008, we completed a financing transaction with ABN AMRO Bank N.V.,
London Branch (“ABN AMRO”), CITIC Allco Investments Limited (together with ABN
AMRO, the “Subscribers,” and each a “Subscriber”), and CITIC Capital Finance
Limited issuing (i) $20,000,000 12% Convertible Bonds due in 2011 (the “2008
Bonds”) and (ii) 300,000 warrants to purchase an aggregate of 300,000 shares of
our common stock, subject to certain adjustments as set forth in the warrant
instrument, that expire in 2013 (the “2008 Bond Warrants”).





The 2008
Bonds were subscribed at a price equal to 100% of their principal amount and we
paid the Subscribers an aggregate commission of 2.5%.  The 2008 Bonds
were issued pursuant to a trust deed.  The terms and conditions of the
Bonds include, among other things, the following:





·
            Interest.The 2008
      Bonds bear cash interest from April 15, 2008 at the rate of 12% per annum
      of the principal amount of the 2008 Bonds.  Interest is payable
      semi-annually in arrears on April 15 and October 15 of each year (each an
      “Interest Payment Date”).




26


·
            Conversion. Each 2008
      Bond is convertible at the option of the holder until April 8, 2011 at an
      initial conversion price equal to $6.35 per share. The conversion price is
      subject to adjustment in certain events, including our issuance of
      additional shares of common stock or rights to purchase common stock at a
      per share or per share exercise or conversion price, respectively, at less
      than the applicable per share conversion price of the 2008
      Bonds.




·
            Mandatory Redemptions.
      On any Interest Payment Date on or after April 15, 2010, the holders of
      the 2008 Bonds can require us to redeem the 2008 Bonds at 116.61% of the
      principal amount of the 2008 Bonds redeemed, plus all accrued but unpaid
      interest. We are required to redeem any outstanding 2008 Bonds at 116.61%
      of its principal amount on April 15,
2011.




The 2008
Bond Warrants have an initial exercise price per share of $6.35, subject to
adjustment in certain events, similar to that of the 2008 Bonds.  The
2008 Bond Warrants terminate on April 15, 2013.  We, in a registration
statement filed with the SEC, registered the 2008 Bonds, the 2008 Bond Warrants,
and the underlying shares of common stock of each of the foregoing.





Critical
Accounting Policies, Estimates and Assumptions





Management’s
discussion and analysis of results of operations and financial condition are
based upon our consolidated financial statements. These statements have been
prepared in accordance with accounting principles generally accepted in the
United States of America. These principles require management to make certain
estimates and assumptions that affect amounts reported and disclosed in the
financial statements and related notes. The most significant estimates and
assumptions include provisions for income taxes, allowance for doubtful
accounts, and the recoverability of the long-lived assets. Actual results could
differ from these estimates. Periodically, we review all significant estimates
and assumptions affecting the financial statements and record the effect of any
necessary adjustments.





The
following critical accounting policies rely upon assumptions and estimates and
were used in the preparation of our consolidated financial
statements:





Revenue and Cost
Recognition –Revenues from fixed-price and modified fixed-price
construction contracts are recognized on the percentage-of-completion method,
measured by the percentage of cost incurred to date to the estimated total cost
for each contract. The revenue earned in a period is based on the ratio of costs
incurred to the total estimated costs required by the contract. Contract costs
include all direct material and labor costs and those indirect costs related to
contract performance, such as indirect labor, supplies, tools, repairs, and
depreciation costs. Total estimated gross profit on a contract, being the
difference between total estimated contract revenue and total estimated contract
cost, is determined before the amount earned on the contract for a period can be
recognized. The measurement of the extent of progress toward completion are used
to determine the amount of gross profit earned to date; the earned revenue to
date is the sum of the total cost incurred on the contract and the amount of
gross profit earned.





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





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





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





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




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





Contract
Receivable –Contract receivable represents billings to customers on the
percentage of work completed and recognized to date based on contract price. An
allowance is provided for doubtful collections which is based upon a review of
outstanding receivables, historical collection information, and existing
economic conditions. We record an allowance for doubtful collections for our
outstanding contract receivable at the end of the period in accordance with
generally accepted accounting principles in the Untied States, and we consider
that allowance to be reasonable at December 31, 2008, 2007, and
2006.  As of December 31, 2008, our provision for doubtful accounts
was $5.2 million, which was 5.6% of our construction contract related
receivables of $93.0 million.





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


27


Income Taxes –We use the accrual method of accounting to determine and report its
taxable income and use the flow through method to account for tax credits, which
are reflected as a reduction of income taxes for the year in which they are
available. We have implemented Statement of Financial Accounting
Standards (SFAS) No. 109, Accounting for Income Taxes. Income tax
liabilities computed according to the United States, People’s Republic of China
(PRC), Hong Kong SAR, Macau SAR and Australia tax laws are provided for the tax
effects of transactions reported in the financial statements and consists of
taxes currently due plus deferred taxes related primarily to differences between
the basis of fixed assets and intangible assets for financial and tax reporting.
The deferred tax assets and liabilities represent the future tax return
consequences of those differences, which will either be taxable or deductible
when the assets and liabilities are recovered or settled. Deferred taxes also
are recognized for operating losses that are available to offset future income
taxes. A valuation allowance is created to evaluate deferred tax assets if it is
more likely than not that these items will either expire before we are able to
realize that tax benefit, or that future realization is uncertain.





Accounting for
the Impairment of Long-Lived Assets –The long-lived assets
held and used by the Company are reviewed for impairment whenever events or
changes in circumstances indicate that the carrying amount of assets may not be
recoverable. It is reasonably possible that these assets could become impaired
as a result of technology or other industry changes. Determination of
recoverability of assets to be held and used is by comparing the carrying amount
of an asset to future net undiscounted cash flows to be generated by the assets.
If such assets are considered to be impaired, the impairment to be recognized is
measured by the amount by which the carrying amount of the assets exceeds the
fair value of the assets. Assets to be disposed of are reported at the lower of
the carrying amount or fair value less costs to sell. During the reporting
periods, there was no impairment loss.





Goodwill and
Intangible Assets - In accordance with Statement of Financial Accounting
Standard 142 (“FAS 142”), “Goodwill and Other Intangible Assets.” the Company
does not amortize goodwill or intangible assets with indefinite lives. For
goodwill and other intangible assets, impairment tests are performed annually
and more frequently whenever events or changes in circumstances indicate
goodwill carrying values exceed estimated reporting unit fair values. Upon
indication that the carrying values of such assets may not be recoverable, the
Company recognizes an impairment loss as a charge against current operations.
Based on the impairment tests performed, there was no impairment of goodwill or
other intangible assets in fiscal 2008, 2007, and 2006





Foreign Currency
Translation – The consolidated financial statements are presented in
United States Dollars (US$). Our functional currency is the US$, while domestic
subsidiaries’ use the Renminbi (RMB) and Hong Kong and overseas subsidiaries use
local currencies as their functional currencies.  The consolidated
financial statements are translated into United States dollars from RMB, HKD,
MOP and AED at year-end exchange rates as to assets and liabilities and average
exchange rates as to revenues and expenses. Capital accounts are translated at
their historical exchange rates when the capital transactions occurred. The RMB
is not freely convertible into foreign currency and all foreign exchange
transactions must take place through authorized institutions. No representation
is made that the RMB amounts could have been, or could be, converted into USD at
the rates used in translation.




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




Results
of Operations





The
following table sets forth our consolidated statements of income for the years
ended December 31, 2008 2007 and 2006 in U.S. dollars:





Year Ended December 31,2008
                
                
                2007
                
                
                2006(in thousands, except share amounts and
                  earnings
      per share)Contract
      revenues earned
                
                $
                151,666
                
                
                $
                86,617
                
                
                $
                63,359Cost
      of contract revenues earned
                
                
                (128,885
                )
                
                
                (64,354
                )
                
                
                (46,796
                )Gross
      profit
                
                $
                22,781
                
                
                $
                22,263
                
                
                $
                16,563Selling,
      general and administrative expenses
                
                
                (26,063
                )
                
                
                (5,525
                )
                
                
                (5,989
                )Non-recurring
      general and administrative expenses
                
                
                —
                
                
                
                —
                
                
                
                (3,806
                )Finance
      Expense
                
                
                —
                
                
                
                (208
                )
                
                
                —Income/(Loss)
      from operations
                
                $
                (3,282
                )
                
                $
                16,530
                
                
                $
                6,768Interest
      income
                
                
                1
                
                
                
                108
                
                
                
                —Interest
      expense
                
                
                (4,377
                )
                
                
                (2,145
                )
                
                
                —Other
      income
                
                
                1,922
                
                
                
                88
                
                
                
                700Other
      expenses
                
                
                (161
                )
                
                
                (127
                )
                
                
                —Income/(Loss)
      before taxation
                
                $
                (5,897
                )
                
                $
                14,455
                
                
                $
                7,468Income
      tax
                
                
                4
                
                
                
                (2,422
                )
                
                
                (1,318
                )Minority
      interests
                
                
                20
                
                
                
                -
                
                
                
                -Net
      income/(loss)
                
                $
                (5,873
                )
                
                $
                12,032
                
                
                $
                6,150Basic
      and diluted net income/(loss) per common share
                
                
                (0.11
                )
                
                
                0.24
                
                
                
                0.14Basic
      and diluted dividend paid per common share
                
                
                —
                
                
                
                —
                
                
                
                0.04Basic
      weighted average common shares outstanding
                
                
                52,034,921
                
                
                
                50,357,454
                
                
                
                44,679,990Diluted
      weighted average common shares outstanding
                
                
                52,034,921
                
                
                
                51,088,144
                
                
                
                44,679,990




28


Years
ended December 31, 2008 and 2007





Contract
revenues earned for the year ended December 31, 2008 were $151.7 million, an
increase of $65.1 million, or 75%, from the contract revenues earned of $86.6
million for the comparable period in 2007. The primary reason for the increase
in contract revenues earned was an increase in the number and size of projects
for the year ended December 31, 2008 due to our rapid expansion into the
overseas market, such as Dubai and New York.




Cost of
contract revenues earned for the year ended December 31, 2008 was $128.9
million, an increase of $64.5 million, or 100%, from $64.4 million for the
comparable period in 2007. Cost of contract revenues earned consists of raw
materials, labor and other operating costs related to contract performance. The
increase in costs of contract revenues earned was primarily due to the increased
number and size of projects for the year ended December 31,
2008.   Our cost of contract revenues grew at a faster rate than
our contract revenues primarily due to the increase in costs of raw materials,
project set-up costs, and labor costs.




Gross
profit for the year ended December 31, 2008 was $22.8 million, an increase of
$0.5 million, or 2%, from $22.3 million for the comparable period of 2007. Our
gross margin for the year ended December 31, 2008 was 15.0% as compared with
25.7% for the year ended December 31, 2007. The decrease was primarily a result
of higher raw material, project set-up costs, and labor costs, especially in our
domestic market of China.




Selling,
general and administrative expenses were $26.1 million for the year ended
December 31, 2008, an increase of approximately $20.6 million, or 375%, from
$5.5 million for the comparable period in 2007. The increase was primarily due
to our operational expansion, including the growth in staff, office rental and
other start-up costs associated with the expansion of our overseas operations
during 2008. Techwell, which we acquired in November 2007, contributed
approximately half to the increase in the expenses.   In
addition, there was $5 million bad debt provision recorded in 2008 as a result
of global slowdown.





Interest
expenses and finance expenses were approximately $4.4 million for the year ended
December 31, 2008, an increase of approximately $2.0 million, from $2.4 million
for the comparable period in 2007. The increase was primarily due to our
issuance of $20 million convertible bonds in April 2008.





Income
tax benefit was $4,000 in 2008, compared with expenses of $2.4 million for the
year ended December 31, 2007. The primary reason for the decrease was due to the
zero corporate income tax rate associated with revenues from the Dubai project,
our largest ongoing project during the year 2008.





Net loss
for the year ended December 31, 2008 was $5.9 million, as compared to net income
of $12.03 million in 2007.





Years
Ended December 31, 2007 and 2006





Contract
revenues earned for the year ended December 31, 2007 were $86.6 million, an
increase of $23.3 million, or 37%, from the contract revenues earned of $63.3
million for the comparable period in 2006. The primary reason for the increase
in contract revenues earned was an increase in the number of projects for the
year ended December 31, 2007. In addition, we also experienced a general
increase in the amount of revenue generated per project for the year ended
December 31, 2007 as compared to the same period in 2006.




Cost of
contract revenues earned for the year ended December 31, 2007 was $64.4 million,
an increase of $17.6 million, or 38%, from $46.8 million for the comparable
period in 2006. Cost of contract revenues earned consists of raw materials,
labor and other operating costs related to contract performance. The increase in
costs of contract revenues earned was primarily due to the increased number of
projects for the year ended December 31, 2007.


29


Gross
profit for the year ended December 31, 2007 was $22.3 million, an increase of
$5.7 million, or 34%, from $16.6 million for the comparable period of 2006. Our
gross margin for the year ended December 31, 2007 was 25.7% as compared with
26.1% for the year ended December 31, 2006. The decrease was primarily a result
of moderately higher raw material and labor costs.




Selling,
general and administrative expenses were $5.5 million for the year ended
December 31, 2007, a decrease of approximately $0.5 million, or 8%, from $6.0
million for the comparable period in 2006. The decrease was primarily due to
higher expenses in 2006 related to organizational restructuring prior to our IPO
in 2007 and operational expansion. There were nil non-recurring general and
administrative expenses in fiscal 2007 as compared to $3.8 million in fiscal
2006 due to a one-time brokerage and consulting fees related to our Share
Exchange and private placement that occurred in fiscal 2006.





Interest
expenses and finance expenses were approximately $2.4 million for the year ended
December 31, 2007, an increase of approximately $2.4 million, from $nil for the
comparable period in 2006. The increase was due to our issuance of $10,000,000
Variable Rate Convertible Bonds due in 2012 (the “Bonds”) at a discount and
800,000 warrants to purchase an aggregate of 800,000 shares of our common stock
in April 2007, which incurred $589,729 accretion of interest discount for
warrants, $634,540 for accretion of interest discount for beneficial conversion
feature, $438,332 accretion of redemption premium, $43,835 for amortization on
bond discount to interest expense and $438,332 for interest
payable.





Income
tax was $2.4 million for the year ended December 31, 2007 at an effective tax
rate of 16.8%, compared with $1.3 million for the year ended December 31, 2006
at an effective tax rate of 17.7%. The primary reason for the increase was due
to the increase in income before taxes and the different amounts of income being
recognized in the PRC, Hong Kong, Macau & Australia under different tax
rates on corporate profits derived from subsidiaries in each location. Our four
PRC subsidiaries are generally subject to a PRC income tax rate of 33%; however,
in accordance with the relevant tax laws and regulations of PRC, the corporation
income tax rate is currently 15%. In addition, our four Hong Kong subsidiaries
are subject to a Hong Kong profits tax rate of 17.5%. Our Macau subsidiary is
subject to a Macau profit tax rate of 12%. Our Australia subsidiary is subject
to an Australian corporate income tax rate of 30%. We expect our effective tax
rates to increase in future periods as a result of new tax laws passed in the
PRC.





Net
income for the year ended December 31, 2007 was $12.03 million, an increase of
$5.88 million, or 96%, from $6.15 million for the comparable period in
2006.





Liquidity
and Capital Resources





At
December 31, 2008, we had cash and cash equivalents of $9.5
million.





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





We have
also financed our operations through the issuance of convertible
bonds.  On April 12, 2007, we completed a financing transaction
pursuant to which we issued the 2007 Bonds in the principal amount of $10
million. The 2007 Bonds bear cash interest at the rate of 6% per annum for the
first year after April 12, 2007 and 3% per annum thereafter, of the principal
amount of the 2007 Bonds. Each 2007 Bond is convertible at an initial conversion
price of $3.50 per share.  At any time after April 12, 2010, holders
of the 2007 Bonds can require us to redeem the 2007 Bonds at 126.51% of the
principal amount. We are required to redeem any outstanding 2007 Bonds at
150.87% of its principal amount on April 4, 2012.  We also issued
800,000 warrants on April 12, 2007 to purchase an aggregate of 800,000 shares of
our common stock, subject to adjustments for stock splits or reorganizations as
set forth in the warrant instrument.  The bondholder exercised these
warrants in November 2008, and after receipt of $8,000 in exercise proceeds, we
issued 800,000 shares of common stock to the bondholder.  Also, in
September 2008, $2 million worth of bonds were converted into shares of common
stock pursuant to which we issued 571,428 shares of common stock.





On April
15, 2008, we completed a financing transaction pursuant to which we issued the
2008 Bonds in the principal amount of $20.0 million. The 2008 Bonds bear cash
interest at the rate of 12% per annum. Interest is payable semi-annually in
arrears on April 15 and October 15 of each year (each an “Interest Payment
Date”) commencing October 15, 2008. On any Interest Payment Date on or after
April 15, 2010, the holders of the Bonds can require us to redeem the Bonds at
116.61% of the principal amount. We are required to redeem any outstanding Bonds
at 116.61% of its principal amount on April 15, 2011. We also issued 300,000
warrants in connection with the 2008 Bonds on April 15, 2008 to purchase an
aggregate of 300,000 shares of our common stock, subject to adjustments for
stock splits or reorganizations as set forth in the warrant
instrument.


30


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





In
October 2006, we opened a line of credit facility with the Zhuhai branch of Bank
of East Asia for up to a maximum of RMB20,000,000. The credit facility does not
require renewal until October 2011. In order to facilitate the extension of the
credit facility, we agreed to deposit the equivalent amount in HKD on fixed
deposit terms into the Hong Kong branch of Bank of East Asia. This facility is
subject to a current interest rate of 5.508% and interest rate adjusts every 6
months. The amount outstanding as of December 31, 2008 was nil.





Our
subsidiary, Zhuhai King Glass Engineering Co., Limited, borrowed from Bank of
East Asia with a condominium as collateral. This facility, which is due October
25, 2011, is subject to a current interest rate of 5.832% and interest rate
adjusts every 6 months. The amount outstanding as of December 31, 2008 was
$141,811.





Full Art
International Limited incurred an automobile capital lease obligation due
November 09, 2012 that had an outstanding amount of $186,474 as of December 31,
2008.





On
December 23, 2008, we repaid the Hong Kong Branch of Dah Sing Bank HKD13,921,076
in accordance with the loan agreement between the bank and Techwell Engineering
Limited.





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





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





We also
lease certain administrative and production facilities from third parties.
Accordingly, for the years ended December 31, 2008 and 2007, we incurred rental
expenses of $1,602,501 and $437,750, respectively.





On July
19, 2008, Zhuhai King Glass Engineering Co., Ltd., our wholly-owned subsidiary
was granted a bank’s acceptance bill facility by the Shenzhen Branch of ABN AMRO
Bank N.V. The facility amount is RMB70,000,000 (US$10,218,978). ABN AMRO
requires irrevocable and unconditional guarantee from us and cash collateral of
20% of bank’s acceptance bill issued. As of December 31, 2008, Zhuhai King Glass
Engineering Co., Ltd. utilized RMB69 million (US$10 million) of the
facility.





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





We
experienced an increase of revenue of $65.1 million for the year ended December
31, 2008 compared to an increase of $23.3 million for the same period in 2007.
Construction contract related receivables, including contract receivables and
costs and earnings in excess of billings as of December 31, 2008 were $87.7
million, an increase of $17.3 million, over construction contract related
receivables of $70.5 million as of December 31, 2007. The increase in such
receivables reflected an increase in contract revenue earned.  In
addition, because the collection period typically runs from two months to one
year, the increase in such receivables reflects not only the increase in sales
but also the long collection period.  In addition, our payment cycle
is considerably shorter than our receivable cycle, since we typically pay our
suppliers all or a portion of the purchase price in advance and for some
suppliers we must maintain a deposit for future orders.


31


We
provide for bad debts principally based upon the aging of accounts receivable,
in addition to collectability of specific customer accounts, our history of bad
debts, and the general condition of the industry. We are currently involved in
six lawsuits in which we are suing other parties for overdue payments. The total
amount involved is approximately $3.2 million.  We have decided to
record a general provision for doubtful accounts amounting to $5 million in
2008, which management believes is commensurate to cover the associated credit
risk in the portfolio of our construction contract related
receivables.  As of December 31, 2008, our provision for doubtful
accounts was $5.2 million, which was 5.6% of our construction contract related
receivables of $93.0 million. We believed it was appropriate to increase the
reserve for doubtful accounts during the fourth quarter of 2008 primarily due to
an increase in the aging of our accounts receivable, the growth of the
outstanding balance of receivables as of December 31, 2008, and the general
decline in the domestic and global economy.  Due to the difficulty in
assessing future trends, we could be required to further increase our provisions
for doubtful accounts.  As our accounts receivable age and become
uncollectible our cash flow and results of operations are negatively
impacted.





At
December 31, 2008, we had no material commitments for capital expenditures other
than for those expenditures incurred in the ordinary course of
business.  We intend to expend a significant amount of capital to
purchase materials and serve as deposits for performance bonds for new projects
that we have obtained. Additional capital for this objective may be required
that is in excess of our liquidity, requiring us to raise additional capital
through an equity offering or secured or unsecured debt financing. The
availability of additional capital resources will depend on prevailing market
conditions, interest rates, and our existing financial position and results of
operations.





Net cash
used in operating activities for the year ended December 31, 2008 was
approximately $3.0 million, as compared to $15.5 million used in the same period
in 2007. The change is primarily due to a significant increase in the size of
operations coupled with an increase in receivables with a relatively long
collection period typical to the construction industry in China, but partially
offset by an increase in payables for the year of 2008.  Net cash used
in operating activities for the year ended December 31, 2007 was $15.5 million,
as compared to $3.0 million used in the same period in 2006. The change is
primarily the result of an add-back of non-cash amortization expense on the
convertible bonds, an increase in receivables due to a relatively long
collection period typical of the architecture industry in China, an increase in
net operating income and an increase in payables for the year ended December 31,
2007.





Net cash
used by investing activities was approximately $16.4 million for the year ended
December 31, 2008 compared to approximately $1.1 million provided by investing
activities for the year ended December 31, 2007. The change was mainly a result
of an increase in restricted cash and increase of fixed assets
purchased.  Net cash used by investing activities was approximately
$1.1 million for the year ended December 31, 2007 compared to approximately
$89,250 used for the year ended December 31, 2006. The change was mainly a
result of an increase of fixed assets purchased.





Net cash
provided by financing activities was $16.4 million for the year ended December
31, 2008 compared to $14.9 million provided for year ended December 31, 2007.
The increase was primarily due to the receipt of $19.5 million for the issuance
of convertible bonds and warrants.  Net cash provided by financing
activities was $14.9 million for the year ended December 31, 2007 compared to
$6.9 million used for the year ended December 31, 2006. The increase was
primarily due to the receipt of $9.7 million for the issuance of convertible
bonds and warrants, $3.3 million from our public offering and $1.4 million
repayment from shareholder. We borrowed short-term loans of $2.6 million and
repaid long-term loans of $2.1 million.





Contractual
obligations





The
following table describes our contractual commitments and obligations as of
December 31, 2008:




Payments due by periodTotal
                
                
                Less than
                  1 year
                
                
                1-3 years
                
                
                3-5 years
                
                
                More than
                  5 yearsOperating
      Lease Obligations
                
                $
                4,765,743
                
                
                $
                1,733,480
                
                
                $
                1,728,564
                
                
                $
                1,303,699
                
                
                $
                -Contingent
      Liabilities (1)
                
                $
                20,365,768
                
                
                $
                18,534,357
                
                
                $
                1,831,411
                
                
                $
                -
                
                
                $
                -Long-term
      debt (2)
                
                $
                35,391,600
                
                
                $
                -
                
                
                $
                23,322,000
                
                
                $
                12,069,600
                
                
                $
                -







(1)
            Includes
      the $3,500,000 standby guarantee expired May 2, 2009, $2,121,322
      performance bond expired April 11, 2009 and $6,363,966 advanced payment
      bond expired March 25, 2009, issued by ABN AMRO Bank N.V. Also includes
      $1,831,411 performance bond expired December 31, 2009, $2,306,425 advanced
      payment bond expired August 6, 2009 and $4,242,644 advanced payment bond
      expired March 25, 2009, issued by
HSBC.





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




32


Off-Balance
Sheet Arrangements





None.





New
Accounting Pronouncements





In
December 2007, the FASB issued SFAS No. 141(R), Business Combinations (“SFAS
No. 141(R)”). SFAS No. 141(R) establishes principles and requirements for how an
acquirer recognizes and measures in its financial statements the identifiable
assets acquired, the liabilities assumed, the goodwill acquired and any
non-controlling interest in the acquiree. This statement also establishes
disclosure requirements to enable the evaluation of the nature of the financial
effect of the business combination. SFAS No. 141(R) is effective for all
business combinations for which the acquisition date is on or after the
beginning of the first fiscal year after December 15, 2008, with the exception
of the accounting for valuation allowances on deferred taxes and acquired tax
contingencies. SFAS No. 141(R) amends SFAS No. 109, Accounting for Income Taxes,
such that adjustments made to valuation allowances on deferred taxes and
acquired tax contingencies associated with acquisitions that closed prior to the
effective date of SFAS No. 141(R) would also apply the provisions of SFAS No.
141(R). The Company adopted SFAS No. 141(R) on January 1, 2009.




In
December 2007, the FASB issued SFAS 160, Noncontrolling Interests in
Consolidated Financial Statements − an amendment of ARB No. 51. SFAS 160
requires that ownership interests in subsidiaries held by parties other than the
parent (previously referred to as minority interests), and the amount of
consolidated net income, be clearly identified, labelled and presented in the
consolidated financial statements. It also requires once a subsidiary is
deconsolidated, any retained noncontrolling equity investment in the former
subsidiary be initially measured at fair value. Sufficient disclosures are
required to clearly identify and distinguish between the interests of the parent
and the interests of the noncontrolling owners as components of equity. It is
effective for fiscal years beginning after December 15, 2008, and requires
retroactive adoption of the presentation and disclosure requirements for
existing minority interests. All other requirements are applied prospectively.
The Company is currently evaluating the impact of SFAS 160 on the Company’s
consolidated financial statements.




In April
2008, the FASB issued FASB Staff Position (“FSP”) SFAS No. 142-3, Determination of the Useful Life of
Intangible Assets (“FSP SFAS No. 142-3”). FSP SFAS No. 142-3
amends the factors that should be considered in developing renewal or extension
assumptions used to determine the useful life of a recognized intangible asset
under SFAS No. 142, Goodwill and Other Intangible Assets. The intent
of this FSP is to improve the consistency between the useful life of a
recognized intangible asset and the period of expected cash flows used to
measure the fair value of the asset under SFAS No. 141 (revised 2007),
Business Combinations, and other US GAAP. FSP SFAS No. 142-3 is
effective for the Company on January 1, 2009. This standard will have no
impact on the Company’s financial position, results of operations or cash
flow.





In May
2008, the FASB issued SFAS No. 162, The Hierarchy of Generally Accepted
Accounting Principles, (“SFAS No. 162”), which became effective November
15, 2008. SFAS No. 162 identifies the sources of accounting principles and the
framework for selecting the principles to be used in the preparation of
financial statements of non-governmental entities that are presented in
conformity with US GAAP. This standard had no impact on the Company’s financial
position, results of operations or cash flows.





In
September 2008, the EITF issued EITF No. 08-6, Equity Method Investment Accounting
Considerations (“EITF 08-6”). EITF 08-6 addresses the effect of SFAS No.
141(R) and SFAS No. 160 on the equity method of accounting. The Company adopted
EITF 08-6 on January 1, 2009. This standard had no impact on the Company’s
financial position, results of operations or cash flows.





In
October 2008, the FASB issued FSP FAS No. 157-3, Determining the Fair Value of a
Financial Asset When the Market for That Asset Is Not Active (“FSP FAS
No. 157-3”), to provide guidance on determining the fair value of financial
instruments in inactive markets. FSP FAS No. 157-3 became effective for the
Company upon issuance. This standard had no impact on the Company’s financial
position, results of operations or cash flows.





ITEM
7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK





Credit
Risk




We are
exposed to credit risk from our cash at bank, fixed deposits and contract
receivables. The credit risk on cash at bank and fixed deposits is limited
because the counterparts are recognized financial institutions. Contract
receivables are subject to credit evaluations. We periodically record a
provision for doubtful collections based on an evaluation of the collectability
of contract receivables by assessing, among other factors, the customer’s
willingness or ability to pay, repayment history, general economic conditions
and our ongoing relationship with the customers. We are currently involved in
six lawsuits in which we are suing other parties for overdue payments. The total
amount involved is US$3,201,424.  We have decided to record a general
provision for doubtful accounts amounting to $5 million in 2008, which
management believes is commensurate to cover the associated credit risk in the
portfolio of our construction contract related receivables.  As of
December 31, 2008, our provision for doubtful accounts was $5,215,701, which was
5.6% of our construction contract related receivables of
$93,016,248.


33


Foreign
Currency Risk




The
company’s functional currency is United States Dollar (USD), while certain
domestic subsidiaries’ use Renminbi (RMB) and Hong Kong and oversea
subsidiaries’ use local currencies as their functional
currency.    The majority of our operations are conducted in
the PRC. Substantially all of our sales and purchases are conducted within the
PRC in RMB. Conversion of RMB into foreign currencies is regulated by the
People’s Bank of China through a unified floating exchange rate system. Although
the PRC government has stated its intention to support the value of the RMB,
there can be no assurance that such exchange rate will not again become volatile
or that the RMB will not devalue significantly against the U.S. dollar. Exchange
rate fluctuations may adversely affect the value, in U.S. dollar terms, of our
net assets and income derived from our operations in the PRC. In addition, the
RMB is not freely convertible into foreign currency and all foreign exchange
transactions must take place through authorized institutions.




Country
Risk
  A
substantial portion of our business, assets and operations are located and
conducted in China. While China’s economy has experienced significant growth in
the past twenty years, growth has been uneven, both geographically and among
various sectors of the economy. The Chinese government has implemented various
measures to encourage economic growth and guide the allocation of resources.
Some of these measures benefit the overall economy of China, but may also have a
negative effect on us. For example, our operating results and financial
condition may be adversely affected by government control over capital
investments or changes in tax regulations applicable to us. If there are any
changes in any policies by the Chinese government and our business is negatively
affected as a result, then our financial results, including our ability to
generate revenues and profits, will also be negatively
affected.





ITEM
8.  FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA





The
information required by this Item 8 is incorporated by reference to China
Architectural Engineering, Inc.’s Consolidated Financial Statements and
Independent Auditors’ Report beginning at page F-1 of this Form
10-K.





ITEM
9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL
DISCLOSURE





Not
Applicable.





ITEM
9A. CONTROLS AND PROCEDURES





Evaluation
of Disclosure Controls and Procedures





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





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





Management's
Report on Internal Control over Financial Reporting




Our
management is responsible for establishing and maintaining adequate internal
control over financial reporting. Internal control over financial reporting, as
defined in Exchange Act Rule 13a-15(f), is a process designed by, or under
the supervision of, our principal executive and principal financial officers and
effected by our Board of Directors, management and other personnel, 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 and includes those policies and
procedures that:




·
              Pertain
      to the maintenance of records that in reasonable detail accurately and
      fairly reflect the transactions and dispositions of our
      assets;




·
              Provide
      reasonable assurance that transactions are recorded as necessary to permit
      preparation of financial statements in accordance with generally accepted
      accounting principles, and that our receipts and expenditures are being
      made only in accordance with authorizations of our management and
      directors; and




·
              Provide
      reasonable assurance regarding prevention or timely detection of
      unauthorized acquisition, use of disposition of our assets that could have
      a material effect on the financial
statements.




34


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




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 this assessment, management believes that
as of December 31, 2008, our internal control over financial reporting was
not effective as of December 31, 2008 due to material weaknesses identified as
related to one of our material operating subsidiaries, Techwell Engineering
Limited. (“Techwell”).





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





In its
assessment of the effectiveness of internal control over financial reporting as
of December 31, 2008, our management determined that the material weaknesses
below existed.  A material weakness is a deficiency, or a combination
of deficiencies, in internal control over financial reporting such that there is
a reasonable possibility that a material misstatement of the annual or interim
financial statements will not be prevented or detected in a timely
basis.





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





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





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





Management’s
assessment of the effectiveness of our internal control over financial reporting
as of December 31, 2008 has been audited by our independent registered public
accounting firm as stated in their report, which is set forth below under
“Report of Independent Registered Public Accounting Firm.”





Remediation
of Material Weaknesses





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





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





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





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




35


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





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





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





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





REPORT
OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM





To:          The
Board of Directors and Stockholders


China
Architectural Engineering, Inc.





We have
audited China Architectural Engineering, Inc. and subsidiaries’ (the “Company”)
internal control over financial reporting as of December 31, 2008, based on the
criteria established in Internal Control -Integrated Framework issued by the
Committee of Sponsoring Organizations of the Treadway Commission. 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, including Management’s Report on Internal
Control over Financial Reporting in item 9A. 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, testing and evaluating the design and operating effectiveness of
internal control based on that risk, and performing such other procedures as we
consider 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 by, or
under the supervision of, the company’s principal executive and principal
financial officers, or persons performing similar functions, and effected by the
company’s board of directors, management, and other personnel 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 authorization 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 the inherent limitations of internal control over financial reporting,
including the possibility of collusion or improper management override of
controls, materials misstatements due to error or fraud may not be prevented or
detected on a timely basis. Also, projections of any evaluation effectiveness of
the internal control over financials reporting 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 policies or procedures may
deteriorate.





A
material weakness is a deficiency, or a combination of deficiencies, in internal
control over financial reporting, such that there is a reasonable possibility
that a material misstatement of the company’s annual or interim financial
statements will not be prevented or detected on a timely
basis.


36


As
described in Managements’ Annual Report in Internal Control over Financial
Reporting, management has concluded that the Company did not maintain effective
control over financial reporting as of December 31, 2008 due to material
weaknesses identified predominantly related to a major operating subsidiary,
Techwell Engineering Limited, which the Company acquired in November 2007, in
that:





1.           The
company did not maintain adequate controls with respect to (a) timely updating
engineering budgets and analysis, (b) coordination and communication between
corporate accounting and engineering staffs, and (c) timely review and analysis
of corporate journals recorded in the consolidation process.





2.           Techwell
did not maintain a sufficient component of personnel with appropriate knowledge
and skill to comply with the Company’s specific engineering financial accounting
and reporting requirements and low materiality
thresholds.  Consequently, controls over the year-end financial
reporting process were not operating effectively to ensure that significant
accounting estimates and other adjustments were appropriately reviewed,
analyzed, and monitored on a timely basis.





3.           Techwell
did not comply with the Company’s authorization standards resulting in expenses
incurred without appropriate authorization and thus impacting unauthorized
expenses, which adversely affected the Company’s operating results.





However,
management has since taken remedial actions including the initiation of a
Sarbanes-Oxley Act of 2002 Section 404 Compliance Assistance Project to
strengthen the control activities; management has committed to monitor the
internal control system effectively.  These material weaknesses were
considered in determining the nature, timing, and extent of audit tests applied
in our audit of the consolidated financial statements. This report does not
affect our report on such financial statements.





In our
opinion, because of the effect of the material weaknesses identified above on
the achievement of the objectives of the control criteria, the Company has not
maintained effective internal control over financial reporting as of December
31, 2008, based on the criteria established in Internal Control – Integrated
Framework issued by the Committee of Sponsoring Organizations of the Treadway
Commission.





We have
also audited, in accordance with the standards of the Public Company Accounting
Oversight Board (United States),  the consolidated balance sheets and
the related consolidated statements of income, cash flows and stockholders
equity of the company as of and for the year ended December 31, 2008. Our report
dated March 27, 2009 expressed an unqualified opinion on those financial
statements.





South
      San Francisco, California
              
              Samuel
      H. Wong & Co., LLPMarch
      27, 2009
              
              Certified
      Public Accountants




Changes
in internal control over financial reporting




Due to
the implementation of the remedial measures to address the material weaknesses
identified above, there were changes in our internal controls over financial
reporting during the fourth quarter of fiscal 2008 that have materially
affected, or are reasonably likely to materially affect our internal control
over financial reporting.





ITEM
9B. OTHER INFORMATION





None.


37


PART
III




ITEM
10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE





The
information required by this Item 10 is incorporated by reference from our
definitive proxy statement on Schedule 14A which will be filed before the end of
the 120-day period immediately following the end of our 2008 fiscal year, or, if
our definitive proxy statement is not filed within that time, the information
will be filed as part of an amendment to this annual report on Form 10-K/A, not
later than the end of the 120-day period.




ITEM
11.  EXECUTIVE COMPENSATION





The
information required by this Item 11 is incorporated by reference from our
definitive proxy statement on Schedule 14A which will be filed before the end of
the 120-day period immediately following the end of our 2008 fiscal year, or, if
our definitive proxy statement is not filed within that time, the information
will be filed as part of an amendment to this annual report on Form 10-K/A, not
later than the end of the 120-day period.





ITEM
12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED
STOCKHOLDER MATTERS





The
information required by this Item 12 is incorporated by reference from our
definitive proxy statement on Schedule 14A which will be filed before the end of
the 120-day period immediately following the end of our 2008 fiscal year, or, if
our definitive proxy statement is not filed within that time, the information
will be filed as part of an amendment to this annual report on Form 10-K/A, not
later than the end of the 120-day period.




ITEM
13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR
INDEPENDENCE





The
information required by this Item 13 is incorporated by reference from our
definitive proxy statement on Schedule 14A which will be filed before the end of
the 120-day period immediately following the end of our 2008 fiscal year, or, if
our definitive proxy statement is not filed within that time, the information
will be filed as part of an amendment to this annual report on Form 10-K/A, not
later than the end of the 120-day period.




ITEM
14.  PRINCIPAL ACCOUNTING FEES AND SERVICES





The
information required by this Item 14 is incorporated by reference from our
definitive proxy statement on Schedule 14A which will be filed before the end of
the 120-day period immediately following the end of our 2008 fiscal year, or, if
our definitive proxy statement is not filed within that time, the information
will be filed as part of an amendment to this annual report on Form 10-K/A, not
later than the end of the 120-day period.





PART IV




ITEM
15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES





1.
Financial Statements: See “Index to Consolidated Financial Statements” in Part
II, Item 8 of this Annual Report on Form 10-K.





2.
Financial Statement Schedule: See “Schedule II—Valuation and Qualifying
Accounts” below in this Item 15 of this Annual Report on Form 10-K.





3.
Exhibits: The exhibits listed in the accompanying “Exhibit Index” are filed or
incorporated by reference as part of this Form 10-K.




SCHEDULE
II


China
Architectural Engineering, Inc.


Valuation
and Qualifying Accounts and Reserves


Years
Ended December 31, 2008, 2007 and 2006





Allowance for Doubtful Accounts:
                  Balance at the Beginning
                    of the Year
                  
                  Charge to Cost
                    and Expenses
                  
                  Deductions
                  
                  Balance at the
                    End of the YearYear
      ended December 31, 2006
                  
                  $
                  403,595
                  
                  
                  $
                  14,053
                  
                  
                  $
                  -
                  
                  
                  $
                  417,648Year
      ended December 31, 2007
                  
                  
                  417,648
                  
                  
                  
                  -
                  
                  
                  
                  (201,947
                  )
                  
                  
                  215,701Year
      ended December 31, 2008
                  
                  
                  215,701
                  
                  
                  
                  5,000,000
                  
                  
                  
                  -
                  
                  
                  
                  5,215,701




38


SIGNATURES




Pursuant
to the requirements of Section 13 or 15(d) of the Securities Exchange Act of
1934, the Registrant has duly caused this report to be signed on its behalf by
the undersigned, thereunto duly authorized, in the City of Zhuhai, People’s
Republic of China, on March 31, 2009.





China
      Architectural Engineering, Inc./s/  Luo
      Ken YiLuo
      Ken YiChief
      Executive Officer and Chairman of the
Board




Pursuant
to the requirements of the Securities Exchange Act of 1934, this report has been
signed by the following persons on behalf of the Registrant and in the
capacities and on the dates indicated.





SIGNATURE
              
              TITLE
              
              DATE/s/  Luo
      Ken Yi
              
              Chief Executive Officer and Chairman of the Board
                (PrincipalExecutive
      Officer)
              
              March
      31, 2009Luo
      Ken Yi/s/  Li
      Chengcheng
              
              Chief Financial Officer (Principal Financial and
                Accounting
      Officer)
              
              March
      31, 2009Li
      Chengcheng/s/  Tang
      Nianzhong
              
              Vice
      General Manager and Director
              
              March
      31, 2009Tang
      Nianzhong/s/  Ye
      Ning
              
              Vice
      General Manager and Director
              
              March
      31, 2009Ye
      Ning/s/  Zheng
      Jinfeng
              
              Director
              
              March
      31, 2009Zheng
      Jinfeng/s/  Zhao
      Bao Jiang
              
              Director
              
              March
      31, 2009Zhao
      Bao Jiang/s/  Kelly
      Wang
              
              Director
              
              March
      31, 2009Kelly
      Wang/s/  Miu
      Cheung
              
              Director
              
              March
      31, 2009Miu
      Cheung




39


Exhibit
Index





Exhibit
                    No.
                  
                  Exhibit
      Description2.1
                  
                  Share
      Exchange Agreement, dated as of August 21, 2006, by and among the
      Registrant, KGE Group, Limited, and Full Art International, Ltd.
      (incorporated by reference from Exhibit 2.1 to Current Report on Form 8-K
      filed with the Securities and Exchange Commission on October 20,
      2006).2.1(a)
                  
                  Amendment
      No. 1 to the Share Exchange Agreement, dated as of October 17, 2006, by
      and among the Registrant, KGE Group, Limited, and Full Art International,
      Ltd. (incorporated by reference from Exhibit 2.1(a) to Current Report on
      Form 8-K filed with the Securities and Exchange Commission on October 20,
      2006).3.1
                  
                  Certificate
      of Incorporation of China Architectural Engineering, Inc. (incorporated by
      reference from Exhibit 3.1 to Registration Statement on Form SB-2 filed
      with the Securities and Exchange Commission on April 20,
      2004).3.1(a)
                  
                  Certificate
      of Amendment of Certificate of Incorporation dated July 8, 2005
      (incorporated by reference to Registrant's Quarterly Report on Form 10-QSB
      filed August 11, 2005)3.2
                  
                  Bylaws
      of the Registrant (incorporated by reference from Exhibit 3.2 to
      Registration Statement on Form SB-2 filed with the Securities and Exchange
      Commission on April 20, 2004, and incorporated herein by
      reference).3.3
                  
                  Articles
      of Merger Effecting Name Change (incorporated by reference from Exhibit
      3.3 to Current Report on Form 8-K filed with the Securities and Exchange
      Commission on October 20, 2006).4.1
                  
                  Specimen
      Certificate of Common Stock (incorporated by reference to Exhibit 4. 1 of
      the Registrant's Registration Statement on Form SB-2 filed August 20,
      2004).4.2
                  
                  Trust
      Deed, dated April 12, 2007, by and between the Registrant and The Bank of
      New York, London Branch (incorporated by reference to Exhibit 4.1 to the
      Current Report on Form 8-K filed with the Securities and Exchange
      Commission on April 18, 2007).4.2(a)
                  
                  Amended
      and Restated Trust Deed, originally dated April 12, 2007, amended and
      restated August 29, 2007 by and between the Registrant and The Bank of New
      York, London Branch (incorporated by reference to Exhibit 4.1 of the
      Registrant’s Quarterly Report on Form 10-Q filed with the Securities and
      Exchange Commission on September 4, 2007).4.3
                  
                  Paying
      and Conversion Agency Agreement, dated April 12, 2007, by and among the
      Registrant, The Bank of New York, and The Bank of New York, London Branch
      (incorporated by reference to Exhibit 4.2 to the Current Report on Form
      8-K filed with the Securities and Exchange Commission on April 18,
      2007).4.4
                  
                  The
      Warrant Instrument, dated April 12, 2007, by and between the Registrant
      and ABN AMRO Bank N.V. (incorporated by reference to Exhibit 4.3 to the
      Current Report on Form 8-K filed with the Securities and Exchange
      Commission on April 18, 2007).4.5
                  
                  Warrant
      Agency Agreement, dated April 12, 2007 among Company, The Bank of New York
      and The Bank of New York, London Branch (incorporated by reference to
      Exhibit 4.4 to the Current Report on Form 8-K filed with the Securities
      and Exchange Commission on April 18, 2007).4.6
                  
                  Registration
      Rights Agreement, dated April 12, 2007, by and between the Registrant and
      ABN AMRO Bank N.V. (incorporated by reference to Exhibit 4.5 to the
      Current Report on Form 8-K filed with the Securities and Exchange
      Commission on April 18, 2007).4.6(a)
                  
                  Written
      description of oral agreement between the Registrant and ABN AMRO Bank
      N.V. (incorporated by reference to Exhibit 4.8(a) to the Form S-1/A filed
      with the Securities and Exchange Commission on September 21,
      2007).4.7
                  
                  Trust
      Deed, dated April 15, 2008, by and between the Registrant and The Bank of
      New York, London Branch (incorporated by reference to Exhibit 4.1 to the
      Current Report on Form 8-K filed with the Securities and Exchange
      Commission on April 18, 2008).4.8
                  
                  Paying
      and Conversion Agency Agreement, dated April 15, 2008, by and among the
      Registrant, The Bank of New York, and The Bank of New York, London Branch
      (incorporated by reference to Exhibit 4.2 to the Current Report on Form
      8-K filed with the Securities and Exchange Commission on April 18,
      2008).4.8(a)
                  
                  Amended
      and Restated Paying and Conversion Agency Agreement, originally dated
      April 15, 2008, amended and restated September 29, 2008 by and among the
      Registrant, The Bank of New York Mellon, and The Bank of New York Mellon,
      London Branch (incorporated by reference to Exhibit 4.1 to the Current
      Report on Form 8-K filed with the Securities and Exchange Commission on
      September 30, 2008).4.9
                  
                  The
      Warrant Instrument, dated April 15, 2008, by and among the Registrant, ABN
      AMRO Bank N.V., London Branch and CITIC Allco Investments Ltd.
      (incorporated by reference to Exhibit 4.3 to the Current Report on Form
      8-K filed with the Securities and Exchange Commission on April 18,
      2008).4.10
                  
                  Warrant
      Agency Agreement, dated April 15, 2008, by and among the Registrant, The
      Bank of New York and The Bank of New York, London Branch (incorporated by
      reference to Exhibit 4.4 to the Current Report on Form 8-K filed with the
      Securities and Exchange Commission on April 18, 2008).4.11
                  
                  Registration
      Rights Agreement, dated April 15, 2008, by and among the Registrant, ABN
      AMRO Bank N.V., London Branch and CITIC Allco Investments Ltd.
      (incorporated by reference to Exhibit 4.5 to the Current Report on Form
      8-K filed with the Securities and Exchange Commission on April 18,
      2008).




40





Exhibit
                      No.
                    
                    Exhibit
      Description10.1
                    
                    Form
      of Subscription Agreement dated October 17, 2006 (incorporated by
      reference to Exhibit 10.1 to the Form S-1/A filed with the Securities and
      Exchange Commission on February 5, 2007).10.1(a)
                    
                    Form
      of Waiver of Penalties dated August 29, 2007 Related to Registration
      Rights (incorporated by reference to Exhibit 10.1 of the Registrant's
      Quarterly Report on Form 10-Q filed with the Securities and Exchange
      Commission on September 4, 2007).10.2
                    
                    Form
      of Subscription Agreement dated October 2004 (incorporated by reference to
      Exhibit 10.2 to the Form SB-2/A filed with the Securities and Exchange
      Commission on October 1, 2004).10.3
                    
                    Employment
      Agreement dated December 30, 2005 by and between the Registrant and Luo
      Ken Yi (translated to English) (incorporated by reference from Exhibit
      10.3 to the Current Report on Form 8-K filed with the Securities and
      Exchange Commission on October 20, 2006).10.4
                    
                    Employment
      Agreement dated January 11, 2004 by and between the Registrant and Tang
      Nianzhong (translated to English) (incorporated by reference to Exhibit
      10.4 to the Form S-1/A filed with the Securities and Exchange Commission
      on February 5, 2007).10.5
                    
                    Employment
      Agreement by and between the Registrant and Ye Ning (translated to
      English) (incorporated by reference from Exhibit 10.5 to the Current
      Report on Form 8-K filed with the Securities and Exchange Commission on
      October 20, 2006).10.6
                    
                    Employment
      Agreement dated January 1, 2006 by and between the Registrant and Li
      Guoxing (translated to English) (incorporated by reference to Exhibit 10.6
      to the Form S-1/A filed with the Securities and Exchange Commission on
      February 5, 2007).10.7
                    
                    Employment
      Agreement dated January 1, 2005 by and between the Registrant and Bai Fai
      (translated to English) (incorporated by reference to Exhibit 10.7 to the
      Form S-1/A filed with the Securities and Exchange Commission on February
      5, 2007).10.8
                    
                    Employment
      Agreement dated December 26, 2005 by and between the Registrant and Wang
      Zairong (translated to English) (incorporated by reference to Exhibit 10.8
      to the Form S-1/A filed with the Securities and Exchange Commission on
      February 5, 2007).10.9
                    
                    Employment
      Agreement dated December 20, 2005 by and between the Registrant and Feng
      Shu (translated to English) (incorporated by reference to Exhibit 10.9 to
      the Form S-1/A filed with the Securities and Exchange Commission on
      February 5, 2007).10.10
                    
                    Employment
      Agreement dated December 26, 2006 by and between the Registrant and Wang
      Xin (translated to English) (incorporated by reference to Exhibit 10.10 to
      the Form S-1/A filed with the Securities and Exchange Commission on
      February 5, 2007).10.11
                    
                    Employment
      Agreement dated March 12, 2008 by and between the Registrant and Xin Yue
      Jasmine Geffner (translated to English) (incorporated by reference to
      Exhibit 10.1 to the Current Report on Form 8-K filed with the Securities
      and Exchange Commission on March 14,
2008).


10.12
                
                Employment
      Agreement dated March 12, 2008 by and between the Registrant and Charles
      John Anderson (incorporated by reference to Exhibit 10.2 to the Current
      Report on Form 8-K filed with the Securities and Exchange Commission on
      March 14, 2008).10.13
                
                Office
      and Factory Lease Agreement dated July 13, 2005 by and between the
      Registrant and Zhuhai Yuping Kitchen Equipment Co., Ltd. (translated to
      English) (incorporated by reference to Exhibit 10.11 to the Form S-1/A
      filed with the Securities and Exchange Commission on February 5,
      2007).10.14
                
                Lease
      Agreement by and between the Registrant and Beijing Aoxingyabo Technology
      Development Co., Ltd (translated to English) (incorporated by reference to
      Exhibit 10.12 to the Form S-1/A filed with the Securities and Exchange
      Commission on February 5, 2007).10.15
                
                Property
      Rental Contract by and between the Registrant and Shanghai Sandi CNC
      equipment Ltd. Co (translated to English) (incorporated by reference to
      Exhibit 10.13 to the Form S-1/A filed with the Securities and Exchange
      Commission on February 5, 2007).10.16
                
                Subscription
      Agreement, dated March 27, 2007, by and between the Registrant and ABN
      AMRO Bank N.V. (incorporated by reference to Exhibit 10.1 to the Current
      Report on Form 8-K filed with the Securities and Exchange Commission on
      April 18, 2007).10.17
                
                Joint
      Venture Agreement dated May 11, 2007 entered into by and between CPD
      (Australia) Holding Pty Ltd. and the Registrant (incorporated by reference
      to Exhibit 10.1 to the Current Report on Form 8-K filed with the
      Securities and Exchange Commission on May 15, 2007).10.18
                
                Form
      of Registration Rights Agreement entered into by and between the
      Registrant, First Alliance Financial Group, Inc. and WestPark Capital,
      Inc. Affiliates (incorporated by reference to Exhibit 10.16 to Form S-1/A
      filed with the Securities and Exchange Commission on September 4,
      2007).10.18(a)
                
                Form
      of Waiver of Penalties Related to Registration Rights entered into by and
      between the Registrant, First Alliance Financial Group, Inc. and WestPark
      Capital, Inc. Affiliates (incorporated by reference to Exhibit 10.16(a) to
      the Form S-1/A filed with the Securities and Exchange Commission on
      September 4, 2007).10.18(b)
                
                Written
      description of oral agreement between the Registrant, First Alliance
      Financial Group, Inc., and WestPark Capital, Inc. Affiliates (incorporated
      by reference to Exhibit 10.16(b) to the Form S-1/A filed with the
      Securities and Exchange Commission on September 21,
  2007).




41





10.19
                
                China
      Architectural Engineering, Inc. 2007 Equity Incentive Plan (incorporated
      by reference from Exhibit 10.1 to the Current Report on Form 8-K filed
      with the Securities and Exchange Commission on July 12,
    2007).10.20
                
                Form
      of Notice of Grant of Stock Option of the Registrant (incorporated by
      reference from Exhibit 10.2 to the Current Report on Form 8-K filed with
      the Securities and Exchange Commission on July 12,
  2007).10.21
                
                Form
      of Stock Option Agreement (including Addendum) of the Registrant
      (incorporated by reference from Exhibit 10.3 to the Current Report on Form
      8-K filed with the Securities and Exchange Commission on July 12,
      2007).10.22
                
                Form
      of Stock Issuance Agreement (including Addendum) of the Registrant
      (incorporated by reference from Exhibit 10.5 to the Current Report on Form
      8-K filed with the Securities and Exchange Commission on July 12,
      2007).10.23
                
                Form
      of Stock Purchase Agreement (including Addendum) of the Registrant
      (incorporated by reference from Exhibit 10.4 to the Current Report on Form
      8-K filed with the Securities and Exchange Commission on July 12,
      2007).10.24
                
                Stock
      Purchase Agreement dated November 6, 2007, entered into by and among Ng
      Chi Sum, Yam Mei Ling, the Registrant and Full Art (incorporated by
      reference from Exhibit 10.1 to the Current Report on Form 8-K filed with
      the Securities and Exchange Commission on November 8,
    2007).10.25
                
                Subscription
      Agreement, dated April 2, 2008, by and among the Registrant, ABN AMRO Bank
      N.V., London Branch, CITIC Allco Investments Ltd., and CITIC Capital
      Finance Ltd. (incorporated by reference to Exhibit 10.1 to the Current
      Report on Form 8-K filed with the Securities and Exchange Commission on
      April 18, 2008).


10.26
                
                Employment
      Agreement with Albert Jan Grisel dated as of January 12, 2009
      (incorporated by reference from Exhibit 10.1 to Current Report on Form 8-K
      filed with the Securities and Exchange Commission on January 16,
      2009).21.1
                
                List
      of Subsidiaries.31.1
                
                Certification
      of Chief Executive Officer pursuant to Item 601(b)(31) of
      Regulation S-K, as adopted pursuant to Section 302 of the
      Sarbanes-Oxley Act of 2002.31.2
                
                Certification
      of Chief Financial Officer pursuant to Item 601(b)(31) of
      Regulation S-K, as adopted pursuant to Section 302 of the
      Sarbanes-Oxley Act of 2002.32.1*
                
                Certifications
      of Chief Executive Officer and Chief Financial Officer pursuant to 18
      U.S.C. Section 1350 as adopted pursuant to Section 906 of the
      Sarbanes-Oxley Act of
2002.







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




42






CHINA
ARCHITECTURAL ENGINEERING, INC.
 FINANCIAL
STATEMENTS
  DECEMBER
31, 2008, 2007, AND 2006
  (Stated
in US dollars)
  INDEX
  CONTENTS
                    PAGESREPORT
      OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
                    F-2CONSOLIDATED
      BALANCE SHEETS
                    F-3
      – F-4CONSOLIDATED
      STATEMENTS OF INCOME
                    F-5CONSOLIDATED
      STATEMENTS OF CASH FLOWS
                    F-6CONSOLIDATED
      STATEMENTS OF STOCKHOLDERS’ EQUITY
                    F-7
      – F-9NOTES
      TO CONSOLIDATED FINANCIAL STATEMENTS
                    F-10
      – F-32
 
  
  F-1
 
  
 REPORT
OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
  
 To: The
Board of Directors and Stockholders of
 China
Architectural Engineering, Inc.
 
  We have
audited the accompanying consolidated balance sheets of China Architectural
Engineering, Inc. as of December 31, 2008 and 2007, and the related consolidated
statements of income, stockholders' equity and cash flows for the years ended
December 31, 2008, 2007 and 2006. These consolidated financial statements are
the responsibility of the Company's management. Our responsibility is to express
an opinion on these consolidated financial statements based on our
audits.
 
  We
conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audits to obtain reasonable assurance about whether the
consolidated financial statements are free of material misstatement. An audit
includes examining, on a test basis, evidence supporting the amounts and
disclosures in the consolidated financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our
opinion.
  In our
opinion, the consolidated financial statements referred to above present fairly,
in all material respects, the financial position of China Architectural
Engineering, Inc. as of December 31, 2008 and 2007, and the results of its
operations and its cash flows for the years ended December 31, 2008, 2007 and
2006 in conformity with accounting principles generally accepted in the United
States of America.
  South San Francisco,
      California
              Samuel H. Wong &
      Co., LLPMarch 27,
      2009
              Certified Public
      Accountants
   F-2
  CHINA
      ARCHITECTURAL ENGINEERING, INC.CONSOLIDATED
      BALANCE SHEETSAS
      OF DECEMBER 31, 2008 AND 2007(Stated
      in US Dollars)       As
      of December 31,2008
                      
                      
                      2007ASSETSCurrent
      assetsCash
      and cash equivalents
                      
                      $
                      9,516,202
                      
                      
                      $
                      4,040,168Restricted
      cash
                      
                      
                      7,451,388
                      
                      
                      
                      595,016Contract
      receivables, net
                      
                      
                      71,811,627
                      
                      
                      
                      13,047,559Costs
      and earnings in excess of billings
                      
                      
                      15,988,920
                      
                      
                      
                      57,488,693Job
      disbursements advances
                      
                      
                      2,252,241
                      
                      
                      
                      2,454,106Tender
      and other site deposits
                      
                      
                      -
                      
                      
                      
                      83,046Other
      receivables
                      
                      
                      18,614,928
                      
                      
                      
                      6,640,865Inventories
                      
                      
                      308,842
                      
                      
                      
                      528,743Deferred
      income taxes, current
                      
                      
                      3,264
                      
                      
                      
                      -Other
      current assets
                      
                      
                      1,659,307
                      
                      
                      
                      109,533Total
      current assets
                      
                      
                      127,606,719
                      
                      
                      
                      84,987,729Non-current
      assetsPlant
      and equipment, net
                      
                      
                      5,852,110
                      
                      
                      
                      2,582,554Intangible
      Assets
                      
                      
                      50,720
                      
                      
                      
                      70,386Organization
      cost
                      
                      
                      -
                      
                      
                      
                      92,741Security
      deposits
                      
                      
                      -
                      
                      
                      
                      -Goodwill
                      
                      
                      7,995,896
                      
                      
                      
                      7,995,896Other
      non-current asset
                      
                      
                      32,137
                      
                      
                      
                      7,505TOTAL
      ASSETS
                      
                      $
                      141,537,582
                      
                      
                      $
                      95,736,811
 LIABILITIES
      AND STOCKHOLDERS’ EQUITYCurrent
      liabilitiesShort-term
      bank loans
                          
                          $
                          -
                          
                          
                          $
                          2,578,550Notes
      payable
                          
                          
                          10,193,088
                          
                          
                          
                          -Accounts
      payable
                          
                          
                          35,510,827
                          
                          
                          
                          18,737,771Billings
      over costs and estimated earnings
                          
                          
                          5,358,527
                          
                          
                          
                          -Amount
      due to shareholder
                          
                          
                          924,687
                          
                          
                          
                          1,334,856Other
      payables
                          
                          
                          7,364,816
                          
                          
                          
                          9,193,186Income
      tax payable
                          
                          
                          2,318,743
                          
                          
                          
                          2,673,643Business
      and other taxes payable
                          
                          
                          3,304,522
                          
                          
                          
                          3,538,336Customers’
      deposits
                          
                          
                          -
                          
                          
                          
                          757,079Other
      Accruals
                          
                          
                          1,794,879
                          
                          
                          
                          499,684Total
      current liabilities
                          
                          
                          66,770,089
                          
                          
                          
                          39,313,105
  See
accompanying notes to financial statements and accountant's
report
    F-3
  CHINA
      ARCHITECTURAL ENGINEERING, INC.CONSOLIDATED
      BALANCE SHEETS (Continued)AS
      OF DECEMBER 31, 2008 AND 2007(Stated
      in US Dollars)
  As
      of December 31,2008
                                                                                        
                                                                                        
                                                                                        2007Non-current
      liabilitiesLong
      term bank loans
                                                                                        
                                                                                        $
                                                                                        328,285
                                                                                        
                                                                                        
                                                                                        $
                                                                                        443,881Convertible
      bond payable, net
                                                                                        
                                                                                        
                                                                                        24,907,170
                                                                                        
                                                                                        
                                                                                        
                                                                                        3,465,741Minority
      interest
                                                                                        
                                                                                        
                                                                                        10,541
                                                                                        
                                                                                        
                                                                                        
                                                                                        49,482TOTAL
      LIABILITIES
                                                                                        
                                                                                        $
                                                                                        92,016,085
                                                                                        
                                                                                        
                                                                                        $
                                                                                        43,272,209STOCKHOLDERS’
      EQUITYPreferred
      stock, $0.001 par value, 10,000,000 shares authorized, 0 shares issued and
      outstanding at December 31, 2008 and 2007, respectively
                                                                                        
                                                                                        
                                                                                        -
                                                                                        
                                                                                        
                                                                                        
                                                                                        -Common
      stock, $0.001 par value, 100,000,000 shares authorized, 53,256,874 and
      51,783,416 shares issued and outstanding at December 31, 2008 and
      2007, respectively
                                                                                        
                                                                                        
                                                                                        53,257
                                                                                        
                                                                                        
                                                                                        
                                                                                        51,784Additional
      paid in capital
                                                                                        
                                                                                        
                                                                                        23,043,792
                                                                                        
                                                                                        
                                                                                        
                                                                                        23,665,558Statutory
      reserves
                                                                                        
                                                                                        
                                                                                        3,040,595
                                                                                        
                                                                                        
                                                                                        
                                                                                        3,040,595Accumulated
      other comprehensive income
                                                                                        
                                                                                        
                                                                                        5,443,432
                                                                                        
                                                                                        
                                                                                        
                                                                                        1,892,829Retained
      earnings
                                                                                        
                                                                                        
                                                                                        17,940,421
                                                                                        
                                                                                        
                                                                                        
                                                                                        23,813,83649,521,497
                                                                                        
                                                                                        
                                                                                        
                                                                                        52,464,602TOTAL
      LIABILITIES ANDSTOCKHOLDERS’
      EQUITY
                                                                                        
                                                                                        $
                                                                                        141,537,582
                                                                                        
                                                                                        
                                                                                        $
                                                                                        95,736,811
 
  See
accompanying notes to financial statements and accountant's
report
  F-4
 
 CHINA
      ARCHITECTURAL ENGINEERING, INC.CONSOLIDATED
      STATEMENTS OF INCOMEFOR
      THE YEARS ENDED DECEMBER 31, 2008, 2007, AND 2006(Stated
      in US Dollars)
  Years
      ended December 31,2008
                
                
                2007
                
                
                2006Contract
      revenues earned
                
                $
                151,665,672
                
                
                $
                86,617,239
                
                
                $
                63,359,174Cost
      of contract revenues earned
                
                
                128,884,736
                
                
                
                64,353,915
                
                
                
                46,796,419Gross
      profit
                
                $
                22,780,936
                
                
                $
                22,263,324
                
                
                $
                16,562,755Selling,
      general and administrative expenses
                
                
                26,062,543
                
                
                
                5,525,130
                
                
                
                5,989,328Non-recurring
      general and administrative expenses
                
                
                -
                
                
                
                -
                
                
                
                3,805,608Finance
      expenses
                
                
                -
                
                
                
                208,197
                
                
                
                -Income
      / (Loss) from operations
                
                $
                (3,281,607
                )
                
                $
                16,529,997
                
                
                $
                6,767,819Interest
      income
                
                
                762
                
                
                
                108,241
                
                
                
                -Interest
      expense
                
                
                4,377,331
                
                
                
                2,144,768
                
                
                
                -Other
      income
                
                
                1,922,285
                
                
                
                88,385
                
                
                
                700,170Other
      expenses
                
                
                161,422
                
                
                
                127,043
                
                
                
                -Income
      before taxation
                
                $
                (5,897,313
                )
                
                $
                14,454,812
                
                
                $
                7,467,989Income
      tax
                
                
                3,649
                
                
                
                2,422,484
                
                
                
                1,318,221Minority
      interests
                
                
                20,249
                
                
                
                -
                
                
                
                -Net
      income/(loss)
                
                $
                (5,873,415
                )
                
                $
                12,032,328
                
                
                $
                6,149,768Basic
      net income/(loss) per common share
                
                $
                (0.11
                )
                
                $
                0.24
                
                
                $
                0.14Diluted
      net income/(loss) per common share
                
                $
                (0.11
                )
                
                $
                0.24
                
                
                $
                0.14Basic
      weighted average common shares outstanding
                
                
                52,034,921
                
                
                
                50,357,454
                
                
                
                44,679,990Diluted
      weighted average common shares outstanding
                
                
                52,034,921
                
                
                
                51,088,144
                
                
                
                44,679,990
  See
accompanying notes to financial statements and accountant's report
   F-5
  CHINA
      ARCHITECTURAL ENGINEERING, INC.CONSOLIDATED
      STATEMENTS OF CASH FLOWSFOR
      THE YEARS ENDED DECEMBER 31, 2008, 2007, AND 2006(Stated
      in US Dollars)      
 Years
      ended December 31,2008
                                    
                                    
                                    2007
                                    
                                    
                                    2006Cash
      flows from operating activitiesNet
      income/(loss)
                                    
                                    $
                                    (5,873,415
                                    )
                                    
                                    $
                                    12,032,328
                                    
                                    
                                    $
                                    6,149,768Depreciation
      and amortization expense
                                    
                                    
                                    780,676
                                    
                                    
                                    
                                    334,378
                                    
                                    
                                    
                                    222,424Bad
      debt expense
                                    
                                    
                                    5,000,000
                                    
                                    
                                    
                                    291,666
                                    
                                    
                                    
                                    -Amortization
      Expense on convertible bond
                                    
                                    
                                    1,901,739
                                    
                                    
                                    
                                    2,144,768
                                    
                                    
                                    
                                    -(Increase)/decrease
      in inventories
                                    
                                    
                                    219,901
                                    
                                    
                                    
                                    (505,635
                                    )
                                    
                                    
                                    281(Increase)/decrease
      in receivables
                                    
                                    
                                    (35,503,221
                                    )
                                    
                                    
                                    (41,988,830
                                    )
                                    
                                    
                                    (18,279,917
                                    )(Increase)/decrease
      in other assets
                                    
                                    
                                    44,596
                                    
                                    
                                    
                                    (117,038
                                    )
                                    
                                    
                                    -Increase/(decrease)
      in payables
                                    
                                    
                                    30,445,703
                                    
                                    
                                    
                                    12,306,736
                                    
                                    
                                    
                                    8,930,623Net
      cash used in operating activities
                                    
                                    $
                                    (2,984,021
                                    )
                                    
                                    $
                                    (15,501,627
                                    )
                                    
                                    $
                                    (2,976,821
                                    )Cash
      flows from investing activitiesDecrease/(increase)
      in restricted cash
                                    
                                    $
                                    (6,856,372
                                    )
                                    
                                    $
                                    2,148,126
                                    
                                    
                                    $
                                    (2,224,783
                                    )Decrease/(increase)
      in security deposit
                                    
                                    
                                    
                                    
                                    
                                    
                                    565,795
                                    
                                    
                                    
                                    (565,795
                                    )Purchases
      of plant and equipment
                                    
                                    
                                    (3,886,532
                                    )
                                    
                                    
                                    (1,649,170
                                    )
                                    
                                    
                                    (89,250
                                    )Net
      cash provided/(used) in investing activities
                                    
                                    $
                                    (10,742,904
                                    )
                                    
                                    $
                                    1,064,751
                                    
                                    
                                    $
                                    (2,879,828
                                    )Cash
      flows from financing activitiesProceeds
      from short-term loans
                                    
                                    $
                                    -
                                    
                                    
                                    $
                                    2,578,550
                                    
                                    
                                    $
                                    -Repayments
      of short-term loans
                                    
                                    
                                    (2,578,550
                                    )
                                    
                                    
                                    -
                                    
                                    
                                    
                                    (743,742
                                    )Proceeds
      from long-term loans
                                    
                                    
                                    -
                                    
                                    
                                    
                                    -
                                    
                                    
                                    
                                    2,564,979Repayments
      of long-term loans
                                    
                                    
                                    (115,596
                                    )
                                    
                                    
                                    (2,121,098
                                    )
                                    
                                    
                                    -Proceeds
      for amount due to shareholder
                                    
                                    
                                    -
                                    
                                    
                                    
                                    1,442,291
                                    
                                    
                                    
                                    -Repayments
      of amount due to shareholder
                                    
                                    
                                    (410,169
                                    )
                                    
                                    
                                    -
                                    
                                    
                                    
                                    (418,821
                                    )Proceeds
      from issuance of common stock
                                    
                                    
                                    -
                                    
                                    
                                    
                                    3,338,470
                                    
                                    
                                    
                                    6,696Increase
      in additional paid in capital from issuance of common
stock
                                    
                                    
                                    8,102
                                    
                                    
                                    
                                    -
                                    
                                    
                                    
                                    7,106,561Dividends
      paid
                                    
                                    
                                    -
                                    
                                    
                                    
                                    -
                                    
                                    
                                    
                                    (1,576,796
                                    )Issuance
      of convertible bond and warrants
                                    
                                    
                                    19,500,000
                                    
                                    
                                    
                                    9,700,000
                                    
                                    
                                    
                                    -Net
      cash provided in financing activities
                                    
                                    $
                                    16,403,787
                                    
                                    
                                    $
                                    14,938,213
                                    
                                    
                                    $
                                    6,938,877Net
      increase in cash and cash equivalents
                                    
                                    $
                                    2,676,862
                                    
                                    
                                    $
                                    501,337
                                    
                                    
                                    $
                                    1,082,228Effect
      of foreign currency translation on cash and cash
    equivalents
                                    
                                    
                                    2,799,172
                                    
                                    
                                    
                                    1,422,865
                                    
                                    
                                    
                                    521,921Cash
      and cash equivalents - beginning of year
                                    
                                    
                                    4,040,168
                                    
                                    
                                    
                                    2,115,966
                                    
                                    
                                    
                                    511,817Cash
      and cash equivalents - end of year
                                    
                                    $
                                    9,516,202
                                    
                                    
                                    $
                                    4,040,168
                                    
                                    
                                    $
                                    2,115,966Other
      supplementary information:Cash
      paid during the year for:Interest
      paid
                                    
                                    $
                                    816,004
                                    
                                    
                                    $
                                    119,335
                                    
                                    
                                    $
                                    116,750Income
      tax paid
                                    
                                    $
                                    203,682
                                    
                                    
                                    $
                                    1,012,332
                                    
                                    
                                    $
                                    798,988
  See
accompanying notes to financial statements and accountant's report
  F-6
 CHINA ARCHITECTURAL ENGINEERING,
INC.CONSOLIDATED
      STATEMENT OF STOCKHOLDERS’ EQUITYAS
      OF DECEMBER 31, 2008, 2007, AND 2006(Amount
      Stated in USD)       Total
                      Number
      of shares
                  
                  
                  Common
      stock
                  
                  
                  Additional
      paid in capital
                  
                  
                  Statutory
      reserves
                  
                  
                  Accumulated
      other comprehensive income
                  
                  
                  Retained
      earnings
                  
                  
                  TotalBalance,
      January 1, 2006
                  
                  
                  43,304,125
                  
                  
                  $
                  43,304
                  
                  
                  $
                  5,722
                  
                  
                  $
                  1,403,699
                  
                  
                  $
                  (51,957
                  )
                  
                  $
                  6,903,786
                  
                  
                  $
                  8,304,554Net
      income
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  6,149,768
                  
                  
                  
                  6,149,768Dividend
      paid
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  (1,576,796
                  )
                  
                  
                  (1,576,796
                  )Issuance
      of common stock
                  
                  
                  6,695,875
                  
                  
                  
                  6,696
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  6,696Additional
      paid in capital from issuance of common stock in cash
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  7,068,979
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  7,068,979Adjustment
      of additional paid in capital to retained earnings in connection with
      share exchange
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  37,582
                  
                  
                  
                  37,582Appropriations
      to statutory revenue reserves
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  33,524
                  
                  
                  
                  
                  
                  
                  
                  (33,524
                  )
                  
                  
                  -Foreign
      currency translation adjustment
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  521,921
                  
                  
                  
                  
                  
                  
                  
                  521,921Balance,
      December 31, 2006
                  
                  
                  50,000,000
                  
                  
                  $
                  50,000
                  
                  
                  $
                  7,074,701
                  
                  
                  $
                  1,437,223
                  
                  
                  $
                  469,964
                  
                  
                  $
                  11,480,816
                  
                  
                  $
                  20,512,704
 
  Balance,
      January 1, 2007
                    
                    
                    50,000,000
                    
                    
                    $
                    50,000
                    
                    
                    $
                    7,074,701
                    
                    
                    $
                    1,437,223
                    
                    
                    $
                    469,964
                    
                    
                    $
                    11,480,816
                    
                    
                    $
                    20,512,704Net
      income
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    12,032,328
                    
                    
                    
                    12,032,328Proceed
      from issuance of common stock
                    
                    
                    1,783,416
                    
                    
                    
                    1,784
                    
                    
                    
                    9,163,264
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    9,165,048Less:
      Cost of stock issuance
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    (951,434
                    )
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    (951,434
                    )Adjustment
      of Zhuhai KGE Co Ltd Retained Earnings to eliminate Dividend
      Paid
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    3,844,897
                    
                    
                    
                    3,844,897Adjustment
      of Zhuhai Career Training School pre-acquisition Deficits
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    14,429
                    
                    
                    
                    14,429Adjustment
      of CAEI retained earnings/(deficits)
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    (1,955,262
                    )
                    
                    
                    (1,955,262
                    )Additional
      Paid-in Capital from warrants and beneficial conversion
      feature
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    8,379,027
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    8,379,027Appropriation
      to statutory reserve
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    1,603,372
                    
                    
                    
                    
                    
                    
                    
                    (1,603,372
                    )
                    
                    
                    -Foreign
      currency translation adjustment
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    1,422,865
                    
                    
                    
                    
                    
                    
                    
                    1,422,865Balance,
      December 31, 2007
                    
                    
                    51,783,416
                    
                    
                    $
                    51,784
                    
                    
                    $
                    23,665,558
                    
                    
                    $
                    3,040,595
                    
                    
                    $
                    1,892,829
                    
                    
                    $
                    23,813,836
                    
                    
                    $
                    52,464,602                        F-7
  CHINA
      ARCHITECTURAL ENGINEERING, INC.CONSOLIDATED
      STATEMENT OF STOCKHOLDERS’ EQUITY - CONTINUEDAS
      OF DECEMBER 31, 2008, 2007, AND 2006(Amount
      Stated in USD)Total
                                      Number
      of shares
                                  
                                  
                                  Common
      stock
                                  
                                  
                                  Additional
      paid in capital
                                  
                                  
                                  Statutory
      reserves
                                  
                                  
                                  Accumulated
      other comprehensive income
                                  
                                  
                                  Retained
      earnings
                                  
                                  
                                  TotalBalance,
      January 1, 2008
                                  
                                  
                                  51,783,416
                                  
                                  
                                  $
                                  51,784
                                  
                                  
                                  $
                                  23,665,558
                                  
                                  
                                  $
                                  3,040,595
                                  
                                  
                                  $
                                  1,892,829
                                  
                                  
                                  $
                                  23,813,836
                                  
                                  
                                  $
                                  52,464,602Net
      loss
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  (5,873,415
                                  )
                                  
                                  
                                  (5,873,415
                                  )Proceed
      from issuance of common stock
                                  
                                  
                                  902,030
                                  
                                  
                                  
                                  902
                                  
                                  
                                  
                                  602,221
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  603,123Conversion
      of bond
                                  
                                  
                                  571,428
                                  
                                  
                                  
                                  571
                                  
                                  
                                  
                                  1,379,908
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  1,380,479Less:
      Cost of stock issuance
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  -Additional
      Paid-in Capital from warrants and beneficial conversion
      feature
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  (2,603,895
                                  )
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  (2,603,895
                                  )Appropriation
      to statutory reserveForeign
      currency translation adjustment
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  3,550,603
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  3,550,603Balance,
      December 31, 2008
                                  
                                  
                                  53,256,874
                                  
                                  
                                  $
                                  53,257
                                  
                                  
                                  $
                                  23,043,792
                                  
                                  
                                  $
                                  3,040,595
                                  
                                  
                                  $
                                  5,443,432
                                  
                                  
                                  $
                                  17,940,421
                                  
                                  
                                  $
                                  49,521,497
   Comprehensive
      Income
                    
                    2006
                    
                    
                    2007
                    
                    
                    2008
                    
                    
                    TotalNet
      Income
                    
                    
                    6,149,768
                    
                    
                    
                    12,032,328
                    
                    
                    
                    (5,873,415
                    )
                    
                    
                    12,308,681Other Comprehensive IncomeForeign
      Currency Translation Adjustment
                    
                    
                    521,921
                    
                    
                    
                    1,422,865
                    
                    
                    
                    3,550,603
                    
                    
                    
                    5,495,389Total
                    
                    
                    6,671,689
                    
                    
                    
                    13,455,193
                    
                    
                    
                    (2,322,812
                    )
                    
                    
                    17,804,070
  See
accompanying notes to financial statements and accountant's report
  F-8
 CHINA
ARCHITECTURAL ENGINEERING, INC.
  NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE YEARS ENDED DECEMBER 31, 2008, 2007, AND 2006
 (Stated
in US Dollars)
  1.      ORGANIZATION
AND PRINCIPAL ACTIVITIES
  China
Architectural Engineering, Inc. (the “Company”) formerly SRKP 1, Inc., was
incorporated in the State of Delaware, United States on March 16,
2004.  The Company’s common stock was listed for trading on the
American Stock Exchange on September 28, 2007.
  On
October 17, 2006, the Company underwent a reverse-merger with Full Art
International Ltd. (a Hong Kong company) and its four wholly-owned subsidiaries
as detailed in Note 2.(b) Consolidation below,
involving an exchange of shares whereby the Company issued an aggregate of
43,304,125 shares of common stock in exchange for all of the issued and
outstanding shares of Full Art.  The Company was the accounting
acquiree.  For financial reporting purposes, this transaction is
classified as a recapitalization of China Architectural Engineering, Inc. and
the historical financial statements of Full Art.
  The
Company through its subsidiaries conducts its principal activity as building
envelope systems contractors, specializing in the design, engineering,
fabrication and installation of curtain wall systems, roofing systems, steel
construction systems and eco-energy saving building conservation systems,
throughout China, Australia, Southeast Asia, the Middle East, and the United
States.
  The
Company's work is performed under cost-plus-fee contracts, fixed-price
contracts, and fixed-price contracts modified by incentive and penalty
provisions. These contracts are undertaken by the Company or its wholly-owned
subsidiaries. The length of the Company's contracts varies but is typically
about one to two years.
  2.      SUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES
  (a)
              Method
      of accounting
  The
Company maintains its general ledger and journals with the accrual method
accounting for financial reporting purposes.  The consolidated
financial statements and notes are representations of
management.  Accounting policies adopted by the Company conform to
generally accepted accounting principles in the United States of America and
have been consistently applied in the presentation of consolidated financial
statements, which are compiled on the accrual basis of accounting.
  (b)
              Consolidation
  The
consolidated financial statements include the accounts of the Company and its
thirteen subsidiaries. Significant inter-company transactions have been
eliminated in consolidation. The consolidated financial statements include 100%
of the assets and liabilities of these majority-owned subsidiaries, and the
ownership interests of minority investors are recorded as minority
interests.
  F-9
 
  CHINA
ARCHITECTURAL ENGINEERING, INC.
  NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE YEARS ENDED DECEMBER 31, 2008, 2007, AND 2006
 (Stated
in US Dollars)
  
  2.    SUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES (CONT’D)
  The
Company owned the subsidiaries since its reverse-merger on October 17, 2006. As
of December 31, 2008, detailed identities of the consolidating subsidiaries are
as follows: -
  Name
      of Company
                
                Place
      of Incorporation
                
                Attributable
      Equity interest %Full
      Art International Limited
                
                Hong
      Kong
                
                100Zhuhai
      King Glass Engineering Co., Limited
                
                PRC
                
                100Zhuhai
      King General Glass Engineering Technology Co., Limited
                
                PRC
                
                100King
      General Engineering (HK) Limited
                
                Hong
      Kong
                
                100KGE
      Building System Limited
                
                Hong
      Kong
                
                100KGE
      Australia Pty Limited
                
                Australia
                
                55Zhuhai
      City, Xiangzhou District Career Training School
                
                PRC
                
                72Techwell
      Engineering Limited
                
                Hong
      Kong
                
                100Techwell
      International Limited
                
                Macau
                
                100Techwell
      Building System (Shenzhen) Co. Limited
                
                PRC
                
                100CAE
      Building Systems, Inc.
                
                USA
                
                100China
      Architectural Engineering (Shenzhen) Co., Ltd.
                
                PRC
                
                100Techwell
      International (SEA) Pte Ltd.
                
                Singapore
                
                100
 
 (c)
              Use
      of estimates
  The
preparation of the consolidated financial statements in conformity with
generally accepted accounting principles in the United States of America
requires management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the consolidated financial statements and the
reported amounts of revenues and expenses during the reporting periods.
Management makes these estimates using the best information available at the
time the estimates are made; however, actual results could differ materially
from those estimates.
  F-10
 CHINA
      ARCHITECTURAL ENGINEERING, INC.
  NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE YEARS ENDED DECEMBER 31, 2008, 2007, AND 2006
 (Stated
in US Dollars)
  2.      SUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES (CONT’D)
  (d)
              Plant
      and equipment
  Plant and
equipment are carried at cost less accumulated
depreciation.  Depreciation is provided over their estimated useful
lives, using the straight-line method. Estimated useful lives of the plant and
equipment are as follows: -
   Motor
      vehicle
              5
      yearsMachinery and
      equipment
              5 -
      10 yearsFurniture and
      office equipment
              5
      yearsBuilding
              20
      years
 The
      cost and related accumulated depreciation of assets sold or otherwise
      retired are eliminated from the accounts and any gain or loss is included
      in the statement of income. The cost of maintenance and repairs is charged
      to income as incurred, whereas significant renewals and betterments are
      capitalized.
  (e)
              Accounting
      for the impairment of long-lived
assets
  The
long-lived assets held and used by the Company are reviewed for impairment
whenever events or changes in circumstances indicate that the carrying amount of
assets may not be recoverable. It is reasonably possible that these assets could
become impaired as a result of technology or other industry
changes.  Determination of recoverability of assets to be held and
used is by comparing the carrying amount of an asset to future net undiscounted
cash flows to be generated by the assets.
  If such
assets are considered to be impaired, the impairment to be recognized is
measured by the amount by which the carrying amount of the assets exceeds the
fair value of the assets. Assets to be disposed of are reported at the lower of
the carrying amount or fair value less costs to sell.
  During
      the reporting periods, there was no impairment loss.
  
 F-11
  CHINA
ARCHITECTURAL ENGINEERING, INC.
  NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE YEARS ENDED DECEMBER 31, 2008, 2007, AND 2006
 (Stated
in US Dollars)
  2.      SUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES (CONT’D)
  (f)
              
              Goodwill
      and Intangible Assets
 
 In
accordance with Statement of Financial Accounting Standard 142 (“FAS 142”),
“Goodwill and Other Intangible Assets.” the Company does not amortize goodwill
or intangible assets with indefinite lives.
  For
goodwill and other intangible assets, impairment tests are performed annually
and more frequently whenever events or changes in circumstances indicate
goodwill carrying values exceed estimated reporting unit fair values. Upon
indication that the carrying values of such assets may not be recoverable, the
Company recognizes an impairment loss as a charge against current
operations.  Based on the impairment tests performed, there was no
impairment of goodwill or other intangible assets in fiscal 2008, 2007 and
2006.
 
 (g)
              Inventories
  Inventories
are raw materials, which are stated at the lower of weighted average cost or
market value.
  (h)
              Contracts
      receivable
  Contracts
receivable from performing construction of industrial and commercial buildings
are based on contracted prices.  The company provides an allowance for
doubtful debts, which is based upon a review of outstanding receivables,
historical collection information, and existing economic
conditions.
  (i)
              
              Cash
      and cash equivalents
 
 The
Company considers all highly liquid investments purchased with original
maturities of three months or less to be cash equivalents.
  (j)
              
              Restricted
      cash
 
 Restricted
cash represents time deposit accounts to secure notes payable and bank
loans.
  F-12
 CHINA
ARCHITECTURAL ENGINEERING, INC.
  NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE YEARS ENDED DECEMBER 31, 2008, 2007, AND 2006
 (Stated
in US Dollars)
  2.   SUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES (CONT’D)
  (k)
                Earnings
      per share
 
 The
Company computes earnings per share (“EPS’) in accordance with Statement of
Financial Accounting Standards No. 128, “Earnings per Share” (“SFAS No. 128”),
and SEC Staff Accounting Bulletin No. 98 (“SAB 98”). SFAS No. 128
requires companies with complex capital structures to present basic and diluted
EPS. Basic EPS is measured as the income or loss available to common
shareholders divided by the weighted average common shares outstanding for the
period. Diluted EPS is similar to basic EPS but presents the dilutive effect on
a per share basis of potential common shares (e.g., convertible securities,
options, and warrants) as if they had been converted at the beginning of the
periods presented, or issuance date, if later. Potential common shares that have
an anti-dilutive effect (i.e., those that increase income per share or decrease
loss per share) are excluded from the calculation of diluted EPS. Approximately
5,137,715 dilutive shares on an “as converted” basis for the Convertible Bond
and exercised warrants were excluded from the calculation of diluted EPS for the
year ended December 31, 2008 since their effect would have been
anti-dilutive.
  The
calculation of diluted weighted average common shares outstanding for the year
ended December 31, 2008 and 2007 is based on the estimate fair value of the
Company’s common stock during such periods applied to warrants and options using
the treasury stock method to determine if they are dilutive. The Convertible
Bond is included on an “as converted “basis when these shares are
dilutive.
 
 Components
of basic and diluted earnings per share were as follows:
 
 Year
      ended December 31, 2008
                  
                  
                  Year
      ended December 31, 2007
                  
                  
                  Year
      ended December 31, 2006Net
      Income (loss)
                  
                  $
                  (5,873,415
                  )
                  
                  $
                  12,032,328
                  
                  
                  $
                  6,149,768Basic
      Weighted Average Shares Outstanding
                  
                  
                  52,034,921
                  
                  
                  
                  50,357,454
                  
                  
                  
                  44,679,990Dilutive
      Shares:-Addition
      to Common Stock from Conversion of Notes
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  --Addition
      to Common Stock from Exercise of Warrants
                  
                  
                  -
                  
                  
                  
                  730,690
                  
                  
                  
                  -Diluted
      Weighted Average Outstanding Shares:
                  
                  
                  52,034,921
                  
                  
                  
                  51,088,144
                  
                  
                  
                  44,679,990Earnings
      Per Share-Basic
                  
                  $
                  (0.11
                  )
                  
                  $
                  0.24
                  
                  
                  $
                  0.14-Diluted
                  
                  $
                  (0.11
                  )
                  
                  $
                  0.24
                  
                  
                  $
                  0.14
 
  F-13
 CHINA
ARCHITECTURAL ENGINEERING, INC.
  NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE YEARS ENDED DECEMBER 31, 2008, 2007, AND 2006
 (Stated
in US Dollars)
  2.   SUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES (CONT’D)
  (l)
              Revenue
      and cost recognition
 
 Revenues
from fixed-price and modified fixed-price construction contracts are recognized
on the percentage-of-completion method, measured by the percentage of time cost
incurred to date to estimated total cost for each contract.
  Contract
costs include all direct material and labor costs and those indirect costs
related to contract performance, such as indirect labor, supplies, tools,
repairs, and depreciation costs.
  Selling,
general, and administrative costs are charged to expense as incurred. Provisions
for estimated losses on uncompleted contracts are made in the period in which
such losses are determined. Changes in job performance, job conditions, and
estimated profitability, including those arising from contract penalty
provisions, and final contract settlements may result in revisions to costs and
income and are recognized in the period in which the revisions are determined.
Profit incentives are included in revenues when their realization is reasonably
assured. An amount equal to contract costs attributable to claims is included in
revenues when realization is probable and the amount can be reliably
estimated.
  Total
estimated gross profit on a contract, being the difference between total
estimated contract revenue and total estimated contract cost, is determined
before the amount earned on the contract for a period can be
determined.
  The
measurement of the extent of progress toward completion is used to determine the
amount of gross profit earned to date and that the earned revenue to date is the
sum of the total cost incurred on the contract and the amount of gross profit
earned.
  Earned
revenue, cost of earned revenue, and gross profit are determined as follows:
-
  i.
                Earned
      Revenue is the amount of gross profit earned on a contract for a period
      plus the costs incurred on the contract during the
  period.ii.
                Cost
      of Earned Revenue is the cost incurred during the period, excluding the
      cost of materials not unique to a contract that have not been used for the
      contract.iii.
                Gross
      Profit earned on a contract is computed by multiplying the total estimated
      gross profit on the contract by the percentage of completion. The excess
      of that amount over the amount of gross profit reported in prior periods
      is the earned gross profit that should be recognized in the income
      statement for the current
period.
  Change
orders are common for the changes in specifications or design while claims are
uncommon.  Contract revenue and costs are adjusted to reflect change
orders approved by the customer and the contractor regarding both scope and
price.  Recognition of amounts of additional contract revenue relating
to claims is appropriate only if it is probable that the claim will result in
additional contract revenue and if the amount can be reliably
estimated.
  
 F-14
  CHINA
ARCHITECTURAL ENGINEERING, INC.
  NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE YEARS ENDED DECEMBER 31, 2008, 2007, AND 2006
 (Stated
in US Dollars)
  2.   SUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES (CONT’D)
  (m)
              Income
      taxes
 
 The
Company uses the accrual method of accounting to determine and report its
taxable reduction of income taxes for the year in which they are
available.  The Company has implemented Statement of Financial Accounting
Standards (SFAS) No. 109, Accounting for Income Taxes.The
Company also adopted FIN 48,
Accounting for Uncertainty in Tax Positions.
  Income
tax liabilities computed according to the United States, People’s Republic of
China (PRC), Hong Kong SAR, Macau SAR and Australia tax laws are provided for
the tax effects of transactions reported in the financial statements and
consists of taxes currently due plus deferred taxes related primarily to
differences between the basis of fixed assets and intangible assets for
financial and tax reporting.  The deferred tax assets and liabilities
represent the future tax return consequences of those differences, which will be
either taxable or deductible when the assets and liabilities are recovered or
settled.  Deferred taxes also are recognized for operating losses that
are available to offset future income taxes.  A valuation allowance is
created to evaluate deferred tax assets if it is more likely than not that these
items will either expire before the Company is able to realize that tax benefit,
or that future realization is uncertain.
  In
respect of the Company’s subsidiaries domiciled and operated in China and Hong
Kong, the taxation of these entities can be summarized as follows:
  ·
              Zhuhai
      King Glass Engineering Co., Limited and Zhuhai King General Glass
      Engineering Technology Co., Limited (“Zhuhai KGGET”) are located in Zhuhai
      and is subject to the PRC corporation income tax rate of 33%. However, in
      accordance with the relevant tax laws and regulations of PRC, the Zhuhai
      local corporation income tax rate is 15%.   Zhuhai KGGET is
      presently dormant, and from the time that it has its first profitable tax
      year, it is exempt from corporate income tax for its first two years and
      is then entitled to a 50% tax reduction for the succeeding three
      years.  Zhuhai KGGET has enjoyed this tax incentive in the
      previous years.  On March 16, 2007, the National People’s
      Congress of China enacted a new PRC Enterprise Income Tax Law, under which
      foreign invested enterprises and domestic companies will be subject to
      enterprise income tax at a uniform rate of 25%. The new law will become
      effective on January 1, 2008. During the transition period for enterprises
      established before March 16, the tax rate will be gradually increased
      starting in 2008 and be equal to the new tax rate in 2012. Zhuhai KGGET
      anticipates that as a result of the new EIT law, its income tax provision
      will increase, which could adversely affect Zhuhai KGGET financial
      condition and results of
operations.
 
 ·
              China
      Architectural Engineering (Shenzhen) Co., Ltd. is located in Shenzhen and
      is subject to an 18% income tax rate that will be gradually increased to
      the uniform rate of 25% by 2012 as according to the new EIT
      law.
  ·
              Full
      Art International Limited, King General Engineering (HK) Limited, and KGE
      Building System Limited are subject to a Hong Kong profits tax rate of
      16.5%.
 
 ·
              Techwell
      Engineering Limited is subject to a Hong Kong profits tax rate of 16.5%.
      Techwell International Limited is a Macau registered company and therefore
      is subject to Macau profits tax rate of 12%.  Techwell Building
      System (Shenzhen) Co. Limited is located in Shenzhen and is subject to PRC
      corporate income tax rate of 18% in
2008.
   F-15
  CHINA
ARCHITECTURAL ENGINEERING, INC.
  NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE YEARS ENDED DECEMBER 31, 2008, 2007, AND 2006
 (Stated
in US Dollars)
  2.      SUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES (CONT’D)
 
 ·      KGE
Australia Pty Limited is subject to a corporate income tax rate of
30%.
  ·      The
Company is subject to United States Tax according to Internal Revenue Code
Sections 951 and 957.
 
 ·      The
Company, after a reverse-merger on October 17, 2006, revived to be an active
business enterprise because of the operations with subsidiaries in the PRC and
Hong Kong.  Based on the consolidated net income for the year ended
December 31, 2007, the Company shall be taxed at the 35% tax rate.
 
 ·      Techwell
Engineering Limited has established a branch in Dubai, which has zero corporate
income tax rate.
 
 (n)
              Advertising
 
 The
Company expensed all advertising costs as incurred.  Advertising
expenses included in selling expenses were $371,664, $140,236, and $151,821 for
the periods ended December 31, 2008, 2007, and 2006, respectively.
  (o)
              Research and
      development
 
 All
research and development costs are expensed as incurred.  Research and
development costs included in general and administrative expenses were $711,318,
$111,129 and $50,117 for the periods ended December 31, 2008, 2007, and 2006,
respectively.
  (p)
              Retirement
      benefits
 
 Retirement
benefits in the form of contributions under defined contribution retirement
plans to the relevant authorities are charged to the statements of income as
incurred. The contributions were $402,751, $246,656 and $118,856 for the periods
ended December 31, 2008, 2007, and 2006, respectively.
  (q)
              Selling,
      general and administrative expenses
 
 Selling,
general and administrative expenses including employee salaries, pension costs,
marketing costs, insurance, rent, and depreciation, etc. The increase was
primarily due to the operational expansion, including the growth in staff,
office rental and other start-up costs associated with the expansion of our
overseas operations during 2008. Techwell, which was acquired by the Company in
November 2007, contributed approximately half to the increase in the
expenses.   In addition, there was $5 million bad debt provision
recorded in 2008 as a result of global slowdown.
  
 F-16
  CHINA
ARCHITECTURAL ENGINEERING, INC.
  NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE YEARS ENDED DECEMBER 31, 2008, 2007, AND 2006
 (Stated
in US Dollars)
  2.      SUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES (CONT’D)
  (r)
              Foreign
      currency translation
 
  The
accompanying consolidated financial statements are presented in United States
dollars. The functional currencies of the Company are Renminbi (RMB), Hong Kong
Dollar (HKD), Macau Pacata (MOP) and Australia Dollar (AUD). The consolidated
financial statements are translated into United States dollars from HKD and RMB
at year-end exchange rates as to assets and liabilities and average exchange
rates as to revenues and expenses. Capital accounts are translated at their
historical exchange rates when the capital transactions occurred.
  2008
                
                2007
                
                2006Period
      end RMB : US$ exchange rate
                6.8225
                
                7.3141
                
                7.8175Average
      yearly RMB : US$ exchange rate
                6.9564
                
                7.6172
                
                7.9819
 
 2008
                
                2007
                
                2006Period
      end HKD : US$ exchange rate
                7.7499
                
                7.8049
                
                7.7794Average
      yearly HKD : US$ exchange rate
                7.7859
                
                7.8026
                
                7.7690
 
 2008
                
                2007
                
                2006Period
      end AED : US$ exchange rate
                3.6731
                
                N/A
                
                N/AAverage
      yearly AED : US$ exchange rate
                3.6736
                
                N/A
                
                N/A
 
 The RMB
is not freely convertible into foreign currency and all foreign exchange
transactions must take place through authorized institutions.  No
representation is made that the RMB amounts could have been, or could be,
converted into US$ at the rates used in translation.
  F-17
 CHINA
ARCHITECTURAL ENGINEERING, INC.
  NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE YEARS ENDED DECEMBER 31, 2008, 2007, AND 2006
 (Stated
in US Dollars)
  2.      SUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES (CONT’D)
  (s)
              Statutory
      reserves
  Statutory
reserves for foreign investment enterprises are referring to the amount
appropriated from the net income in accordance with PRC laws or regulations,
which can be used to recover losses and increase capital, as approved, and are
to be used to expand production or operations.
  (t)
              
              Comprehensive
      income
  Comprehensive
income is defined to include all changes in equity except those resulting from
investments by owners and distributions to owners.  Among other
disclosures, all items that are required to be recognized under current
accounting standards as components of comprehensive income are required to be
reported in a financial statement that is presented with the same prominence as
other consolidated financial statements.  The Company’s current
components of other comprehensive income are the foreign currency translation
adjustment.
  F-18
  CHINA
ARCHITECTURAL ENGINEERING, INC.
  NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE YEARS ENDED DECEMBER 31, 2008, 2007, AND 2006
 (Stated
in US Dollars)
 
  2.      SUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES (CONT’D)
  (u)
              Recent
      accounting pronouncements
  In
December 2007, the FASB issued SFAS No. 141(R), Business Combinations (“SFAS No.
141(R)”). SFAS No. 141(R) establishes principles and requirements for how an
acquirer recognizes and measures in its financial statements the identifiable
assets acquired, the liabilities assumed, the goodwill acquired and any
non-controlling interest in the acquiree. This statement also establishes
disclosure requirements to enable the evaluation of the nature of the financial
effect of the business combination. SFAS No. 141(R) is effective for all
business combinations for which the acquisition date is on or after the
beginning of the first fiscal year after December 15, 2008, with the exception
of the accounting for valuation allowances on deferred taxes and acquired tax
contingencies. SFAS No. 141(R) amends SFAS No. 109, Accounting for Income Taxes,
such that adjustments made to valuation allowances on deferred taxes and
acquired tax contingencies associated with acquisitions that closed prior to the
effective date of SFAS No. 141(R) would also apply the provisions of SFAS No.
141(R). The Company adopted SFAS No. 141(R) on January 1, 2009.
   In
December 2007, the FASB issued SFAS 160, Noncontrolling Interests in
Consolidated Financial Statements − an amendment of ARB No. 51. SFAS 160
requires that ownership interests in subsidiaries held by parties other than the
parent (previously referred to as minority interests), and the amount of
consolidated net income, be clearly identified, labeled and presented in the
consolidated financial statements. It also requires once a subsidiary is
deconsolidated, any retained noncontrolling equity investment in the former
subsidiary be initially measured at fair value. Sufficient disclosures are
required to clearly identify and distinguish between the interests of the parent
and the interests of the noncontrolling owners as components of equity. It is
effective for fiscal years beginning after December 15, 2008, and requires
retroactive adoption of the presentation and disclosure requirements for
existing minority interests. All other requirements are applied prospectively.
The Company is currently evaluating the impact of SFAS 160 on the Company’s
consolidated financial statements.
  In April
2008, the FASB issued FASB Staff Position (“FSP”) SFAS No. 142-3,
Determination of the Useful Life of Intangible Assets (“FSP SFAS
No. 142-3”). FSP SFAS No. 142-3 amends the factors that should be
considered in developing renewal or extension assumptions used to determine the
useful life of a recognized intangible asset under SFAS No. 142,
Goodwill and Other Intangible Assets. The intent of this FSP is to improve the
consistency between the useful life of a recognized intangible asset and the
period of expected cash flows used to measure the fair value of the asset under
SFAS No. 141 (revised 2007), Business Combinations, and other
US GAAP. FSP SFAS No. 142-3 is effective for the Company on
January 1, 2009. This standard will have no impact on the Company’s
financial position, results of operations or cash flow.
  F-19
 
  CHINA
ARCHITECTURAL ENGINEERING, INC.
  NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE YEARS ENDED DECEMBER 31, 2008, 2007, AND 2006
 (Stated
in US Dollars)
 
  2.      SUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES (CONT’D)
  (u)
Recent accounting pronouncements (cont’d)
  In May
2008, the FASB issued SFAS No. 162, The Hierarchy of Generally Accepted
Accounting Principles, (“SFAS No. 162”), which became effective November 15,
2008. SFAS No. 162 identifies the sources of accounting principles and the
framework for selecting the principles to be used in the preparation of
financial statements of non-governmental entities that are presented in
conformity with US GAAP. This standard had no impact on the Company’s financial
position, results of operations or cash flows.
  In
September 2008, the EITF issued EITF No. 08-6, Equity Method Investment
Accounting Considerations (“EITF 08-6”). EITF 08-6 addresses the effect of SFAS
No. 141(R) and SFAS No. 160 on the equity method of accounting. The Company
adopted EITF 08-6 on January 1, 2009. This standard had no impact on the
Company’s financial position, results of operations or cash
flows.
  In
October 2008, the FASB issued FSP FAS No. 157-3, Determining the Fair Value of a
Financial Asset When the Market for That Asset Is Not Active (“FSP FAS No.
157-3”), to provide guidance on determining the fair value of financial
instruments in inactive markets. FSP FAS No. 157-3 became effective for the
Company upon issuance. This standard had no impact on the Company’s financial
position, results of operations or cash flows.
  
 F-20
  CHINA
ARCHITECTURAL ENGINEERING, INC.
  NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE YEARS ENDED DECEMBER 31, 2008, 2007, AND 2006
 (Stated
in US Dollars)
  3.      CONTRACT
RECEIVABLES
  December 31,2008
                    
                    
                    December 31,2007Contract
      receivables
                    
                    $
                    77,027,328
                    
                    
                    $
                    13,263,260Less: Allowance for
      doubtful accounts
                    
                    
                    (5,215,701
                    )
                    
                    
                    (215,701
                    )Net
                    
                    $
                    71,811,627
                    
                    
                    $
                    13,047,559
 
  Allowance for Doubtful
    Accounts
                        
                        December 31,2008
                        
                        
                        December 31,2007Beginning
      balance
                        
                        $
                        215,701
                        
                        
                        $
                        417,648Add:
      Allowance created
                        
                        
                        5,000,000Less: Bad debt charged
      against allowance
                        
                        
                        -
                        
                        
                        
                        (201,947
                        )Ending
      balance
                        
                        $
                        5,215,701
                        
                        
                        $
                        215,701
 
 4.      INVENTORIES
  December 31,2008
                  
                  
                  December 31,2007Raw
      materials at sites
                  
                  $
                  308,842
                  
                  
                  $
                  528,743
 
  F-21
 CHINA
ARCHITECTURAL ENGINEERING, INC.
  NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE YEARS ENDED DECEMBER 31, 2008, 2007, AND 2006
 (Stated
in US Dollars)
  5.      PLANT
AND EQUIPMENT
  Plant and
equipment consist of the following as of: -
  December 31,2008
                        
                        
                        December 31,
      2007At
      costMotor
      vehicle
                        
                        $
                        1,568,165
                        
                        
                        $
                        1,223,692Machinery
      and equipment
                        
                        
                        3,221,028
                        
                        
                        
                        3,383,123Furniture,
      software and officeequipment
                        
                        
                        2,443,382
                        
                        
                        
                        625,102Building
                        
                        
                        311,596
                        
                        
                        
                        290,652Leasehold
      improvement
                        
                        
                        2,198,367
                        
                        
                        
                        189,403$
                        9,742,538
                        
                        
                        $
                        5,711,972Less:
      Accumulated depreciationMotor
      vehicle
                        
                        $
                        774,977
                        
                        
                        $
                        593,141Machinery
      and equipment
                        
                        
                        1,975,014
                        
                        
                        
                        2,227,231equipment
                        
                        
                        908,591
                        
                        
                        
                        269,695Building
                        
                        
                        24,538
                        
                        
                        
                        9,810Leasehold
      improvement
                        
                        
                        207,308
                        
                        
                        
                        29,541$
                        3,890,428
                        
                        
                        $
                        3,129,418$
                        5,852,110
                        
                        
                        $
                        2,582,554
  Depreciation
expenses included in the selling and administrative expenses for years ended
December 31 2008 and 2007 were $761,010 and $334,378 respectively.
  6.      INTANGIBLE
ASSETS
 December 31,2008
                    
                    
                    December 31,2007At
      costIntangible
      Assets
                    
                    $
                    99,567
                    
                    
                    $
                    99,567Less:
      Accumulated amortization
                    
                    
                    48,847
                    
                    
                    
                    29,181$
                    50,720
                    
                    
                    $
                    70,386
 
  F-22
 
 CHINA
ARCHITECTURAL ENGINEERING, INC.
  NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE YEARS ENDED DECEMBER 31, 2008, 2007, AND 2006
 (Stated
in US Dollars)
  7.      LOANS
 
 A.
              SHORT-TERM
      BANK LOANS
 
 December
      31, 2008
                    
                    
                    December 31,2007Bank
      of East Asia Ltd., line of credit, at 5.508% per annum, subject to
      variation every 6 months, due October 25, 2011
                    
                    $
                    -
                    
                    
                    $
                    546,889Dah
      Sing Bank, 5.0% per annum, line of credit, due November 28,
      2008
                    
                    
                    -
                    
                    
                    
                    257,926Dah
      Sing Bank, 5.5% per annum, trust receipts, due November 25,
      2008
                    
                    
                    -
                    
                    
                    
                    1,773,735$
                    -
                    
                    
                    $
                    2,578,550
  In
October 2006, the Company opened a line of credit facility with the Zhuhai
branch of Bank of East Asia for a maximum of RMB20,000,000. The credit facility
does not require renewal until October 2011. In order to facilitate the
extension of the credit facility, the Company agreed to deposit the equivalent
amount in HKD on fixed deposit terms into the Hong Kong branch of Bank of East
Asia. This facility is subject to a current interest rate of 5.508% and interest
rate adjusts every 6 months.
  B.
              LONG-TERM
      BANK LOANS
  December 31,2008
                  
                  
                  December 31,2007Bank
      of East Asia Ltd., line of credit, at 5.832% per annum, subject to
      variation ever 6 months, due October 25, 2011
                  
                  $
                  141,811
                  
                  
                  $
                  169,518Auto
      capital lease obligations (hire purchase) due November 09,
      2012
                  
                  
                  186,474
                  
                  
                  
                  274,363$
                  328,285
                  
                  
                  $
                  443,881
  Zhuhai
King Glass Engineering Co., Limited borrowed from Bank of East Asia with a
condominium as collateral. This facility is subject to a current interest rate
of 5.832% and interest rate adjusts every 6 months.
  Full Art
International Limited borrowed a hire purchase (car) loan from DBS
Bank.
  F-23
 
  CHINA
ARCHITECTURAL ENGINEERING, INC.
  NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE YEARS ENDED DECEMBER 31, 2008, 2007, AND 2006
 (Stated
in US Dollars)
 
 8.   CONVERTIBLE
BONDS AND BOND WARRANTS
  A.
              $10,000,000
      Variable Rate Convertible Bonds due in
2012
  On April
12, 2007, the Company completed a financing transaction with ABN AMRO Bank N.V.
(the “Subscriber”) issuing (i) $10,000,000 Variable Rate Convertible Bonds due
in 2012 (the “Bonds”) and (ii) 800,000 warrants to purchase an aggregate of
800,000 shares of the Company’s common stock, subject to adjustments for stock
splits or reorganizations as set forth in the warrant, that expire in 2010 (the
“Warrants”).
  The Bonds
were subscribed at a price equal to 97% of their principal amount, which is the
issue price of 100% less a 3% commission to the Subscriber. The Bonds were
issued pursuant to, and are subject to the terms and conditions of, a trust deed
dated April 12, 2007, as amended, between the Company and The Bank of New York,
London Branch (the “Amended and Restated Trust Deed”). The Bonds are also
subject to a paying and conversion agency agreement dated April 12, 2007 between
the Company, The Bank of New York, and The Bank of New York, London Branch. The
terms and conditions of the Bonds, as set forth in the Amended and Restated
Trust Deed include, among other thing, the following terms:
  ·
              Interest
      Rate. The Bonds bear interest from April 12, 2007 at the rate of 6% per
      annum for the first year after April 12, 2007 and 3% per annum thereafter,
      of the principal amount of the
Bonds.
  ·
              Conversion.
      Each Bond is convertible at the option of the holder at any time after
      April 12, 2008 up to March 28, 2012, into shares of the Company’s common
      stock at an initial conversion price equal to the price per share at which
      shares are sold in the Company’s initial public offering of common stock
      on the NYSE Amex purchase common stock at a per share or per share
      exercise or conversion price, respectively, at less than the applicable
      per share conversion price of the Bonds. If for the period of 20
      consecutive trading days immediately prior to April 12, 2009 or February
      18, 2012, the conversion price for the Bonds is higher than the average
      closing price for the shares, then the conversion price will be reset to
      such average closing price; provided that, the conversion price will not
      be reset lower than 70% of the then existing conversion price. In
      addition, the Amended and Restated Trust Deed provides that the conversion
      price of the Bonds cannot be adjusted to lower than $0.25 per share of
      common stock (as adjusted for stock splits, stock dividends, spin-offs,
      rights offerings, recapitalizations and similar
  events).
  ·
              Mandatory
      Redemptions.  At any time after April 12, 2010, holders of the
      Bonds can require the Company to redeem the Bonds at 126.51% of the
      principal amount. The Company is required to redeem any outstanding Bonds
      at 150.87% of its principal amount on April 4,
  2012.
 
  F-24
 CHINA
ARCHITECTURAL ENGINEERING, INC.
  NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE YEARS ENDED DECEMBER 31, 2008, 2007, AND 2006
 (Stated
in US Dollars)
  8.   CONVERTIBLE
BONDS AND BOND WARRANTS (CONTINUED)
  A.
              $10,000,000
      Variable Rate Convertible Bonds due in 2012
  (Continued)
  On April
12, 2007, the Company entered into a warrant instrument with the Subscriber
pursuant to which the Subscriber purchased the Warrants from the Company (the
“Warrant Instrument”). The Warrants, which are represented by a global
certificate, are also subject to a warrant agency agreement by and among the
Company, The Bank of New York and The Bank of New York, London Branch dated
April 12, 2007 (the “Warrant Agency Agreement”). Pursuant to the terms and
conditions of the Warrant Instrument and the Warrant Agency Agreement, the
Warrants vested on April 12, 2007 and will terminate on April 12, 2010. The Bond
Warrants are exercisable at a per share exercise price of $0.01. The Company has
listed the Warrants on the NYSE Amex by April 12, 2008.
  On April
12, 2007, the Company also entered into a registration rights agreement with the
Subscriber pursuant to which the Company agreed to include the Bonds, the
Warrants, and the shares of common stock underlying the Bonds and Warrants in a
pre-effective amendment to a registration statement that the Company have on
file with the SEC. Subsequently, the Company verbally agreed with the Subscriber
not to include the Subscriber’s securities in the pre-effective amendment to the
registration statement and to register them in a separate registration statement
to be filed promptly after the effective date of the previously filed
registration statement. The Company registered the resale of the Bonds, the
Warrants, and the shares of common stock underlying the Bonds and Warrants in a
registration statement that was declared effective by the SEC on February 7,
2008.
  On April
12, 2007, the date of issuance, the Company determined the fair value of the
Bonds to be $9,700,000. The warrants and the beneficial conversion feature were
$3,207,790 and $3,507,791 respectively, which were determined under the
Black-Scholes valuation method. They are included under stockholders’ equity as
additional paid in capital – stock warrants and additional paid in capital –
beneficial conversion feature respectively in accordance with guidance of APB 14
and EITF No. 98-5. Accordingly, the interest discount on the warrants and
beneficial conversion feature were recorded, and are being amortized by the
interest method of 5 years.
  As
addressed in an earlier paragraph under Mandatory Redemptions, the Company will
redeem each bond at 150.87% of its principal amount on April 4, 2012 (the
maturity date). On the basis of this commitment, the Company has determined the
total redemption premium to be $5,087,100, which is an addition to the original
face value of the Bonds of $10,000,000. This redemption premium is to be
amortized to interest expense over the term of the Bonds by the interest
method.
  F-25
 CHINA
ARCHITECTURAL ENGINEERING, INC.
  NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE YEARS ENDED DECEMBER 31, 2008, 2007, AND 2006
 (Stated
in US Dollars)
  8.   CONVERTIBLE
BONDS AND BOND WARRANTS (CONTINUED)
  A.
              $10,000,000
      Variable Rate Convertible Bonds due in 2012
  (Continued)
  On
September 29, 2008, the Subscriber converted $2,000,000 into 571,428 shares at
the conversion price of $3.50 per share.
  Because
of the fact that the $10,000,000 Variable Rate Convertible Bonds contain three
separate securities and yet merged into one package, the bond security must
identify its constituents and establish the individual value as determined by
the Company as follows:
  (1)
                  Bond
      Discount
                  
                  $
                  240,000(2)
                  Warrants
                  
                  $
                  1,746,400(3)
                  Beneficial
      Conversion Feature
                  
                  $
                  1,737,143
 
  F-26
 CHINA
ARCHITECTURAL ENGINEERING, INC.
  NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE YEARS ENDED DECEMBER 31, 2008, 2007, AND 2006
 (Stated
in US Dollars)
 
  8.   CONVERTIBLE
BONDS AND BOND WARRANTS (CONTINUED)
  B.
              $20,000,000
      12% Convertible Bonds due in 2011
 
  On April
15, 2008, the Company completed a financing transaction with ABN AMRO Bank N.V.,
London Branch (“ABN AMRO”), CITIC Allco Investments Limited (together with ABN
AMRO, the “Subscribers,” and each a “Subscriber”), and CITIC Capital Finance
Limited issuing (i) $20,000,000 12% Convertible Bonds due in 2011 (the “Bonds”)
and (ii) 300,000 warrants to purchase an aggregate of 300,000 shares of the
Company’s common stock, subject to certain adjustments as set forth in the
warrant instrument, that expire in 2013 (the “Bond Warrants”). The transaction
was completed in accordance with a subscription agreement entered into by the
Company, Subscribers, and CITIC Capital Finance Limited, dated April 2, 2008
(the “Subscription Agreement”).
  The Bonds
were subscribed at a price equal to 100% of their principal amount. The Company
agreed to pay to the Subscribers an aggregate commission of 2.5% of the
principal amount of the Bonds and of the aggregate warrant issue price for the
Bond Warrants. The Bonds were issued pursuant to, and are subject to the terms
and conditions of, a trust deed dated April 15, 2008 between the Company and The
Bank of New York, London Branch (the “Trust Deed”). The Bonds are also subject
to a paying and conversion agency agreement dated April 15, 2008 between the
Company, The Bank of New York, and The Bank of New York, London Branch. The
terms and conditions of the Bonds, as set forth in the Trust Deed include, among
other things, the following terms:
  Interest
Rate. The Bonds bear cash interest from April 15, 2008 at the rate of 12% per
annum of the principal amount of the Bonds.
  Conversion.
Each Bond is convertible at the option of the holder at any time during the
period (i) beginning on the earlier of (a) the date that a registration
statement for the shares to be issued upon conversion of the Bonds is first
declared effective by the United States Securities and Exchange Commission (the
“SEC”) and (b) October 15, 2008 and (ii) ending at the close of business on
April 8, 2011, subject to certain exceptions, into shares of the Company’s
common stock at an initial conversion price equal to $6.35 per share, which is
the product of 1.1 and the average closing price per share of the Company’s
common stock for the period of 20 consecutive trading days immediately prior to
April 15, 2008. The conversion price is subject to adjustment in certain events,
including the Company’s issuance of additional shares of common stock or rights
to purchase common stock at a per share or per share exercise or conversion
price, respectively, at less than the applicable per share conversion price of
the Bonds.
  Mandatory
Redemptions. Interest is payable semi-annually in arrears on April 15 and
October 15 of each year (each an “Interest Payment Date”) commencing October 15,
2008. On any Interest Payment Date on or after April 15, 2010, the holders of
the Bonds can require the Company to redeem the Bonds at 116.61% of the
principal amount of the Bonds redeemed, plus all accrued but unpaid interest.
The Company is required to redeem any outstanding Bonds at 116.61% of its
principal amount on April 15, 2011.
  F-27
 CHINA
ARCHITECTURAL ENGINEERING, INC.
  NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE YEARS ENDED DECEMBER 31, 2008, 2007, AND 2006
 (Stated
in US Dollars)
 
  8.   CONVERTIBLE
BONDS AND BOND WARRANTS (CONTINUED)
  B.
              $20,000,000
      12% Convertible Bonds due in 2011
(Continued)
 
  On April
15, 2008, the Company entered into a warrant instrument with the Subscribers
pursuant to which the Subscribers purchased the Bond Warrants from the Company
(the “Warrant Instrument”). The Bond Warrants, which are represented by a global
certificate, are also subject to a warrant agency agreement by and among the
Company, The Bank of New York and The Bank of New York, London Branch dated
April 15, 2008 (the “Warrant Agency Agreement”). Pursuant to the terms and
conditions of the Warrant Instrument and the Warrant Agency Agreement, the Bond
Warrants became exercisable on April 15, 2008 and terminate on April 15, 2013.
The Bond Warrants have an initial exercise price per share of $6.35, subject to
adjustment in certain events.
  The
Company agreed to list the shares of common stock underlying the Bonds and the
Bond Warrants on the NYSE Amex, or any alternative stock exchange by the earlier
of October 15, 2008 and the date on which a registration statement registering
the shares of common stock underlying the Bonds and the Bond Warrants is first
declared effective by the SEC. In addition, the Company agreed to register the
shares of common stock underlying the Bonds and the Bond Warrants with the SEC
on or prior to October 15, 2008 and will keep the registration effective until
30 days after the Bond Warrants terminate.  The Company completed the
listing and registration of the shares of common stock underlying the Bonds and
the Bond Warrants by October 15, 2008.
  On April,
15, 2008, the Company also entered into a registration rights agreement with the
Subscribers pursuant to which it agreed to register the Bonds, the Bond
Warrants, and the shares of common stock underlying the Bonds and Bond Warrants
(the “Registrable Securities”). The Company filed with the SEC a registration
statement on Form S-1 to register the Registrable Securities (the “Registration
Statement”) which was declared effective by the SEC on October 3,
2008.  In addition, the Company agreed to list all the Registrable
Securities covered by the Registration Statement on each securities exchange on
which similar securities issued by the Company are then listed.
  Pursuant
to the terms of the Subscription Agreement, the Company has appointed a director
designated by CITIC Capital Finance Limited to the Company’s Board of
Directors.
  F-28
 CHINA
ARCHITECTURAL ENGINEERING, INC.
  NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE YEARS ENDED DECEMBER 31, 2008, 2007, AND 2006
 (Stated
in US Dollars)
 
  8.   CONVERTIBLE
BONDS AND BOND WARRANTS (CONTINUED)
  B.
              $20,000,000
      12% Convertible Bonds due in 2011
(Continued)
 
  Because
of the fact that the $20,000,000 Convertible Bonds contain three separate
securities and yet merged into one package, the bond security must identify its
constituents and establish the individual value as determined by the Company as
follows:
  (1)
                  Bond
      Discount
                  
                  $
                  500,000(2)
                  Warrants
                  
                  $
                  1,413,503(3)
                  Beneficial
      Conversion Feature
                  
                  $
                  -
  The above
items A and B are to be amortized to interest expense over the term of the bonds
by the effective interest method as disclosed in the table below.
  The
Convertible Bonds Payable, net consists of the following: -
  December
      31,
                      2008
                    
                    
                    December
      31,
                      2007Convertible
      Bonds Payable
                    
                    $
                    28,000,000
                    
                    
                    $
                    10,000,000Less:
      Interest discount – Warrants
                    
                    
                    (3,159,903
                    )
                    
                    
                    (4,036,170
                    )Less:
      Interest discount – Beneficial conversion feature
                    
                    
                    (1,737,143
                    )
                    
                    
                    (4,342,857
                    )Less:
      Bond discount
                    
                    
                    (740,000
                    )
                    
                    
                    (300,000
                    )Accretion
      of interest discount and accrual of interest payable
                    
                    
                    2,544,216
                    
                    
                    
                    2,144,768Net
                    
                    $
                    24,907,170
                    
                    
                    $
                    3,465,741
 
  F-29
 CHINA
ARCHITECTURAL ENGINEERING, INC.
  NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE YEARS ENDED DECEMBER 31, 2008, 2007, AND 2006
 (Stated
in US Dollars)
  9.
              CONTRACT
      REVENUES EARNED
  The
contract revenues earned for the years ended December 31, 2008, 2007 and 2006
consist of the following: -
  Year
      ended December 31, 2008
                    
                    
                    Year
      ended December 31, 2007
                    
                    
                    Year
      ended December 31, 2006Billed
                    
                    $
                    128,509,031
                    
                    
                    $
                    60,241,592
                    
                    
                    $
                    41,906,743Unbilled
                    
                    
                    23,156,641
                    
                    
                    
                    26,375,647
                    
                    
                    
                    21,452,431$
                    151,665,672
                    
                    
                    $
                    86,617,239
                    
                    
                    $
                    63,359,174
  The
unbilled contract revenue earned represents those revenue that should be
recognized according to the percentage of completion method for accounting for
construction contract because the Company is entitled to receive payment from
the customers for the amount of work that has been rendered to and completed for
that customer according to the terms and progress being made as stipulated under
that contract between the Company and that customer. As an industrial practice,
there are certain procedures that need to be performed, such as project account
finalization, by both the customer and the Company before the final billing is
issued; however this does not affect the Company’s recognition of revenue and
respective cost according to the terms of the contract with the consistent
application of the percentage-of-completion method.
  A single
customer accounted for 37.7% of the Company’s contract revenues for the year
ended December 31, 2008. No other customer accounts for 10% or more of the
Company’s contract revenues in 2008.
  F-30
 
  CHINA
ARCHITECTURAL ENGINEERING, INC.
  NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE YEARS ENDED DECEMBER 31, 2008, 2007, AND 2006
 (Stated
in US Dollars)
  10.
              INCOME
      TAXES
  The
following table accounts for the differences between the actual tax provision
and the amounts obtained by applying the relevant applicable corporation income
tax rate to income before tax for the periods ended December 31, 2008, 2007, and
2006: -
  Year
      ended December 31, 2008
                  
                  
                  Year
      ended December 31, 2007
                  
                  
                  Year
      ended December 31, 2006Income/(loss)
      before tax
                  
                  
                  (5,873,415
                  )
                  
                  
                  12,032,328
                  
                  
                  
                  6,149,768Taxes
      at the applicable  income tax rates
                  
                  $
                  19,629
                  
                  
                  $
                  4,770,088
                  
                  
                  $
                  2,464,436Miscellaneous
      non taxable income and non-deductible expenses
                  
                  
                  (23,278
                  )
                  
                  
                  (2,347,604
                  )
                  
                  
                  (1,146,215
                  )Current
      income tax expense
                  
                  $
                  (3,649
                  )
                  
                  $
                  2,422,484
                  
                  
                  $
                  1,318,221
  Effective
January 1, 2008, the PRC government implemented a new 25% tax rate across the
board for all enterprises regardless of whether domestic or foreign enterprise
without any tax preferences which is defined as "two-year exemption followed by
three-year half exemption" enjoyed by tax payers. As a result of the new tax
law, a standard 15% tax preference terminated as of December 31, 2007. The PRC
government has established a set of transition rules to allow enterprises using
tax preferences before January 1, 2008 to continue using the tax preferences on
a transitional basis until being the new tax rates are fully implemented over a
five year period.
  F-31
 CHINA
ARCHITECTURAL ENGINEERING, INC.
  NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE YEARS ENDED DECEMBER 31, 2008, 2007, AND 2006
 (Stated
in US Dollars)
   11.
                  COMMITMENTS
      AND CONTINGENCIES
 A.               OPERATING
LEASE COMMIMENTS
  The
Company leases certain administrative and production facilities from third
parties.  Accordingly, for the years ended December 31, 2008, 2007,
and 2006, the Company incurred rental expenses of $1,602,501, $437,750 and
$385,386, respectively.
  The
Company has commitments with respect to non-cancelable operating leases for
these offices, as follows: -
  For
      the years ended December 31,2009
                    
                    
                    1,733,4802010
                    
                    
                    918,8982011
                    
                    
                    809,6662012
      or after
                    
                    
                    1,303,699$
                    4,765,743
  B.               PENDING
LITIGATION
  Pursuant
to a Stock Purchase Agreement dated November 7, 2007, the previous shareholders
of Techwell Engineering Limited (“Techwell”), Mr. Ng, Chi Sum and Miss Yam, Mei
Ling Maria agreed to sell 100% of the shares in Techwell to the Company for
approximately $11.7 million in cash and shares of common stock of the Company.
Subsequent to the said acquisition, Mr. Ng and Miss Yam were employed by
Techwell.
  On
January 14, 2009, the board of directors of Techwell passed a board resolution,
to dismiss both Mr. Ng and Miss Yam with immediate effect and remove Mr. Ng from
the board of Techwell (the “Resolution”).   On January 16, 2009,
Mr. Ng and Miss Yam filed a lawsuit in the High Court of Hong Kong against the
Company and its subsidiary, Full Art International Limited.  The
lawsuit alleges that, inter alia, (i) the Company misrepresented to them the
financial status of the Company and operations during the course the acquisition
of Techwell was being negotiated; (ii) the Company failed to perform its
obligations under a settlement agreement alleged to be agreed by the
Company in January 2009; and (iii) the dismissal of Mr. Ng was unlawful and
invalid.
  On
January 23, 2009 an ex-parte injunction order was granted to Mr. Ng, restraining
the Company from implementing the Resolution, which was eventually dismissed
with immediate effect on February 25, 2009 after a court session in the High
Court of Hong Kong. Mr. Ng was also ordered to bear the costs of the various
court proceedings in connection with the said injunction order. On March 27,
2009, Mr. Ng and Miss Yam filed a summons in the High Court of Hong Kong seeking
a court order for leave to join the Company’s principal shareholder, KGE Group
Limited, as a defendant of the said lawsuit.
  The
Company intends to vigorously defend this pending lawsuit; however, no assurance
can be given that the lawsuit will be resolved in the Company’s
favor.  Even if the Company successfully defends the lawsuit, the
Company may incur substantial costs defending or settling the lawsuit, in
addition to a possible diversion of the time and attention of the Company’s
management from its business.  If the Company is unsuccessful in
defending the lawsuit, its may be required to pay a significant amount of
damages and/or it may potentially lose ownership of Techwell, which will have a
material adverse effect on the Company’s business, financial condition or
results of operations.
  12.
                RELATED
      PARTIES TRANSACTIONS
  The
amount due to shareholder at December 31 2008, 2007, and 2006 was $ 924,687,
$1,334,856 and $ 1,735, respectively.
  During
the year ended December 31, 2008, the Company purchased construction materials
amounting to $16.8 million from Guangdong Canbo Electrical Co., Ltd. (Canbo), a
subsidiary of the Company’s major shareholder, KGE Group Limited. Canbo is a
preferred supplier of the Company as it is able to procure materials at
favorable price levels due to its purchased quantities. More important,
application of certain of the Company’s patented technology is preferably routed
through Canbo to prevent undesired distribution of this technology. The Company
at times provides advance payment to Canbo in order to obtain a more favorable
pricing. As of December 31, 2008, the Company’s advance to Canbo was $6.6
million. The Company has obtained trade facilities for purchases through
Canbo.  As of December 31, 2008, the Company used $10.2 million such
bank acceptance notes as reflected in the Company's current
liabilities.
  The
transactions with related parties during the periods were carried out in the
ordinary course of business and on normal commercial terms.
  F-32