##### Table of Contents

---

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549



---

FORM 10-Q



---

(Mark One)

|x | Quarterly report under Section 13 or 15(d) of the Securities Exchange Act of 1934 for the quarterly period ended September 30, 2007
|- | -----------------------------------------------------------------------------------------------------------------------------------



| ̈ | Transition report under Section 13 or 15(d) of the Securities Exchange Act of 1934 for the transition period from
 to
|- | ---------------------------------------------------------------------------------------------------------------------

Commission File No. 0-29785



---

AMERICAN ORIENTAL BIOENGINEERING, INC.

(Exact Name of Registrant as specified in Its Charter)



---



|                                                               |  |                                     
|-------------------------------------------------------------- |  | ------------------------------------
|NEVADA                                                         |  | 84-0605867                          
|(State or other jurisdiction of incorporation or organization) |  | (I.R.S. Employer Identification No.)

NO. 4018 JINTIAN ROAD, ANLIAN PLAZA, 12F SUITE B02 , FUTIAN DISTRICT SHENZHEN

PEOPLES REPUBLIC OF CHINA, 518026

(Address of principal executive offices)

86-451-8666-6601

(Issuers telephone number, including area code)



---

Check whether the registrant (1) filed all reports required to be filed by Section 13 or 15(d) of the Exchange
Act during the past 12 months (or for such shorter period that the registrant was required to file such reports); and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No ̈

Check whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer.

Large accelerated filer ̈Accelerated filer  x    Non-accelerated filer ̈

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

The number of shares outstanding of each of the issuers classes of equity as of the latest practicable date is stated below



|                                    |  |                                   
|----------------------------------- |  | ----------------------------------
|Title of each class of Common Stock |  | Outstanding as of October 31, 2007
|Preferred Stock, $0.001 par value   |  | 1,000,000                         
|Common Stock, $0.001 par value      |  | 74,977,760                        



Page 1 of 39



---

##### Table of Contents

|                                                                                               |  |   
|---------------------------------------------------------------------------------------------- |  | --
|PART I  FINANCIAL INFORMATION                                                                 |  | 3 
|                                                                                               | 
|ITEM 1  FINANCIAL STATEMENTS                                                                  |  | 3 
|                                                                                               | 
|ITEM 2  MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS |  | 21
|                                                                                               | 
|ITEM 3  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK                            |  | 33
|                                                                                               | 
|ITEM 4  CONTROLS AND PROCEDURES                                                               |  | 33
|                                                                                               | 
|PART II  OTHER INFORMATION                                                                    |  | 34
|                                                                                               | 
|ITEM 1  LEGAL PROCEEDINGS                                                                     |  | 34
|                                                                                               | 
|ITEM 1A  RISK FACTORS                                                                         |  | 34
|                                                                                               | 
|ITEM 2  UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS                           |  | 34
|                                                                                               | 
|ITEM 3  DEFAULTS UPON SENIOR SECURITIES                                                       |  | 34
|                                                                                               | 
|ITEM 4  SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS                                   |  | 34
|                                                                                               | 
|ITEM 5  OTHER INFORMATION                                                                     |  | 34
|                                                                                               | 
|ITEM 6  EXHIBITS                                                                              |  | 35



Page 2 of 39



---

##### Table of Contents

PART I  FINANCIAL INFORMATION

ITEM 1  FINANCIAL STATEMENTS

AMERICAN ORIENTAL BIOENGINEERING, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

ASSETS



|                                                                                                                                          |  |                   |             |                  |   |            
|----------------------------------------------------------------------------------------------------------------------------------------- |  | ----------------- | ----------- | ---------------- | - | -----------
|                                                                                                                                          |  | SEPTEMBER 30,2007 |             | DECEMBER 31,2006
|                                                                                                                                          |  | UNAUDITED         |             |                 
|CURRENT ASSETS                                                                                                                            |  |                   |             |                  |   |            
|Cash and cash equivalents                                                                                                                 |  | $                 | 170,624,005 |                  | $ | 87,784,419 
|Accounts receivable, net of reserve of $285,007 and $39,776 at September 30, 2007 and December 31, 2006,
respectively                     |  |                   | 15,333,892  |                  |   | 11,141,057 
|Inventories, net of $615,050 and $615,552 provision for slow moving inventories at September 30, 2007 and December 31, 2006,
respectively |  |                   | 15,349,597  |                  |   | 10,684,316 
|Advances to suppliers                                                                                                                     |  |                   | 2,580,911   |                  |   | 1,950,101  
|Notes receivable                                                                                                                          |  |                   | 2,223,683   |                  |   | 3,238,161  
|Other receivables                                                                                                                         |  |                   | 89,630      |                  |   | 37,545     
|Due from employees                                                                                                                        |  |                   | 190,849     |                  |   | 585,050    
|Deposit for acquisition                                                                                                                   |  |                   | 4,420,770   |                  |   |           
|Deferred consulting expenses                                                                                                              |  |                   | 97,500      |                  |   | 166,600    
|                                                                                                                                          |  |                   |             |                  |   |            
|Total Current Assets                                                                                                                      |  |                   | 210,910,837 |                  |   | 115,587,249
|                                                                                                                                          |  |                   |             |                  |   |            
|LONG-TERM ASSETS                                                                                                                          |  |                   |             |                  |   |            
|Plant and equipment, net                                                                                                                  |  |                   | 42,596,023  |                  |   | 32,194,957 
|Land use rights, net                                                                                                                      |  |                   | 40,539,275  |                  |   | 32,937,743 
|Construction in progress                                                                                                                  |  |                   | 173,073     |                  |   | 326,121    
|Deferred tax assets                                                                                                                       |  |                   | 1,600,940   |                  |   | 1,797,153  
|Other intangible assets, net                                                                                                              |  |                   | 9,976,982   |                  |   | 383,755    
|Goodwill                                                                                                                                  |  |                   | 11,467,270  |                  |   | 1,933,100  
|Long-term investment and advance                                                                                                          |  |                   | 190,882     |                  |   | 113,868    
|                                                                                                                                          |  |                   |             |                  |   |            
|Total Long-Term Assets                                                                                                                    |  |                   | 106,544,445 |                  |   | 69,686,697 
|                                                                                                                                          |  |                   |             |                  |   |            
|TOTAL ASSETS                                                                                                                              |  | $                 | 317,455,282 |                  | $ | 185,273,946
|                                                                                                                                          |  |                   |             |                  |   |            

See accompanying notes to the condensed consolidated financial statements



Page 3 of 39



---

##### Table of Contents

AMERICAN ORIENTAL BIOENGINEERING, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

LIABILITIES AND SHAREHOLDERS EQUITY



|                                                                                                                                                                  |  |                   |             |                  |   |            
|----------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | ----------------- | ----------- | ---------------- | - | -----------
|                                                                                                                                                                  |  | SEPTEMBER 30,2007 |             | DECEMBER 31,2006
|                                                                                                                                                                  |  | UNAUDITED         |             |                 
|CURRENT LIABILITIES                                                                                                                                               |  |                   |             |                  |   |            
|Accounts payable                                                                                                                                                  |  | $                 | 4,781,481   |                  | $ | 2,871,981  
|Other payables and accrued expenses                                                                                                                               |  |                   | 7,443,882   |                  |   | 4,549,867  
|Taxes payable                                                                                                                                                     |  |                   | 2,243,868   |                  |   | 2,211,542  
|Short-term bank loans                                                                                                                                             |  |                   | 6,119,007   |                  |   | 8,314,679  
|Current portion of long-term bank loans                                                                                                                           |  |                   | 977,739     |                  |   | 1,450,905  
|Customer deposits                                                                                                                                                 |  |                   | 1,393,819   |                  |   | 2,263,654  
|Notes payable                                                                                                                                                     |  |                   | 69,125      |                  |   | 66,216     
|Payable for acquisition                                                                                                                                           |  |                   | 11,681,890  |                  |   |           
|Other liabilities                                                                                                                                                 |  |                   | 769,721     |                  |   | 1,606,334  
|                                                                                                                                                                  |  |                   |             |                  |   |            
|Total Current Liabilities                                                                                                                                         |  |                   | 35,480,532  |                  |   | 23,335,178 
|                                                                                                                                                                  |  |                   |             |                  |   |            
|LONG-TERM LIABILITIES                                                                                                                                             |  |                   |             |                  |   |            
|Long-term bank loans, net of current portion                                                                                                                      |  |                   | 2,601,679   |                  |   | 915,909    
|Long-term notes payable                                                                                                                                           |  |                   | 274,424     |                  |   | 255,836    
|Deferred tax liabilities                                                                                                                                          |  |                   | 8,882,761   |                  |   | 4,580,698  
|Other liabilities                                                                                                                                                 |  |                   | 1,597       |                  |   | 9,083      
|                                                                                                                                                                  |  |                   |             |                  |   |            
|Total Long-Term Liabilities                                                                                                                                       |  |                   | 11,760,461  |                  |   | 5,761,526  
|                                                                                                                                                                  |  |                   |             |                  |   |            
|TOTAL LIABILITIES                                                                                                                                                 |  |                   | 47,240,993  |                  |   | 29,096,704 
|                                                                                                                                                                  |  |                   |             |                  |   |            
|COMMITMENTS                                                                                                                                                       |  |                   |             |                  |   |            
|SHAREHOLDERS EQUITY                                                                                                                                              |  |                   |             |                  |   |            
|Preferred stock, $0.001 par value; 2,000,000 shares authorized; 1,000,000 shares issued and outstanding at September 30, 2007 and
December 31, 2006, respectively |  |                   | 1,000       |                  |   | 1,000      
|Common stock, $0.001 par value; 150,000,000 shares authorized; 74,909,301 and 64,230,369 shares issued and outstanding,
respectively                              |  |                   | 74,909      |                  |   | 64,230     
|Stock to be issued                                                                                                                                                |  |                   | 197,083     |                  |   | 599,069    
|Additional paid-in capital                                                                                                                                        |  |                   | 172,963,877 |                  |   | 92,307,960 
|Retained earnings (the restricted portion of retained earnings is $8,498,766 at September 30, 2007 and December 31, 2006,
respectively)                           |  |                   | 86,853,096  |                  |   | 58,826,911 
|Accumulated other comprehensive income                                                                                                                            |  |                   | 10,124,324  |                  |   | 4,378,072  
|                                                                                                                                                                  |  |                   |             |                  |   |            
|Total Shareholders Equity                                                                                                                                        |  |                   | 270,214,289 |                  |   | 156,177,242
|                                                                                                                                                                  |  |                   |             |                  |   |            
|TOTAL LIABILITIES AND SHAREHOLDERS EQUITY                                                                                                                        |  | $                 | 317,455,282 |                  | $ | 185,273,946
|                                                                                                                                                                  |  |                   |             |                  |   |            

See accompanying notes to the condensed consolidated financial statements



Page 4 of 39



---

##### Table of Contents

AMERICAN ORIENTAL BIOENGINEERING, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME

(UNAUDITED)



|                                                         |  |                                  |            |   |                                 |   |            |      |  |   |             |   |  |   |            |  
|-------------------------------------------------------- |  | -------------------------------- | ---------- | - | ------------------------------- | - | ---------- | ---- |  | - | ----------- | - |  | - | ---------- | -
|                                                         |  | THREE MONTHS ENDED SEPTEMBER 30, |            |   | NINE MONTHS ENDED SEPTEMBER 30, |  
|                                                         |  | 2007                             |            |   | 2006                            |   |            | 2007 |  |   | 2006        |  
|REVENUES                                                 |  | $                                | 43,514,049 |   |                                 | $ | 27,075,059 |      |  | $ | 103,062,573 |   |  | $ | 69,238,089 |  
|COST OF GOODS SOLD                                       |  |                                  | 12,833,252 |   |                                 |   | 9,373,245  |      |  |   | 31,048,916  |   |  |   | 24,292,034 |  
|                                                         |  |                                  |            |   |                                 |   |            |      |  |   |             |   |  |   |            |  
|GROSS PROFIT                                             |  |                                  | 30,680,797 |   |                                 |   | 17,701,814 |      |  |   | 72,013,657  |   |  |   | 44,946,055 |  
|                                                         |  |                                  |            |   |                                 |   |            |      |  |   |             |   |  |   |            |  
|Selling and marketing                                    |  |                                  | 5,644,776  |   |                                 |   | 2,230,490  |      |  |   | 12,210,509  |   |  |   | 5,896,617  |  
|Advertising                                              |  |                                  | 6,934,160  |   |                                 |   | 3,607,212  |      |  |   | 16,150,754  |   |  |   | 8,844,564  |  
|General and administrative                               |  |                                  | 3,742,364  |   |                                 |   | 2,223,335  |      |  |   | 9,234,426   |   |  |   | 6,781,231  |  
|Depreciation and amortization                            |  |                                  | 377,856    |   |                                 |   | 288,070    |      |  |   | 1,054,128   |   |  |   | 654,890    |  
|                                                         |  |                                  |            |   |                                 |   |            |      |  |   |             |   |  |   |            |  
|Total operating expenses                                 |  |                                  | 16,699,156 |   |                                 |   | 8,349,107  |      |  |   | 38,649,817  |   |  |   | 22,177,302 |  
|                                                         |  |                                  |            |   |                                 |   |            |      |  |   |             |   |  |   |            |  
|INCOME FROM OPERATIONS                                   |  |                                  | 13,981,641 |   |                                 |   | 9,352,707  |      |  |   | 33,363,840  |   |  |   | 22,768,753 |  
|INTEREST INCOME, NET                                     |  |                                  | 360,365    |   |                                 |   | 106,804    |      |  |   | 375,604     |   |  |   | 550,057    |  
|OTHER INCOME (EXPENSE), NET                              |  |                                  | (12,191    | ) |                                 |   | 6,379      |      |  |   | 133,284     |   |  |   | 15,540     |  
|                                                         |  |                                  |            |   |                                 |   |            |      |  |   |             |   |  |   |            |  
|INCOME BEFORE INCOME TAXES                               |  |                                  | 14,329,815 |   |                                 |   | 9,465,890  |      |  |   | 33,872,728  |   |  |   | 23,334,350 |  
|INCOME TAXES                                             |  |                                  | 2,386,189  |   |                                 |   | 1,915,266  |      |  |   | 5,846,543   |   |  |   | 4,922,419  |  
|                                                         |  |                                  |            |   |                                 |   |            |      |  |   |             |   |  |   |            |  
|NET INCOME                                               |  |                                  | 11,943,626 |   |                                 |   | 7,550,624  |      |  |   | 28,026,185  |   |  |   | 18,411,931 |  
|                                                         |  |                                  |            |   |                                 |   |            |      |  |   |             |   |  |   |            |  
|OTHER COMPREHENSIVE INCOME                               |  |                                  |            |   |                                 |   |            |      |  |   |             |   |  |   |            |  
|Foreign currency translation gain                        |  |                                  | 2,344,696  |   |                                 |   | 949,154    |      |  |   | 5,746,252   |   |  |   | 1,587,449  |  
|Income tax expense related to other comprehensive income |  |                                  | (351,704   | ) |                                 |   | (142,373   | )    |  |   | (861,938    | ) |  |   | (238,117   | )
|                                                         |  |                                  |            |   |                                 |   |            |      |  |   |             |   |  |   |            |  
|TOTAL OTHER COMPREHENSIVE INCOME, NET OF TAX             |  |                                  | 1,992,992  |   |                                 |   | 806,781    |      |  |   | 4,884,314   |   |  |   | 1,349,332  |  
|                                                         |  |                                  |            |   |                                 |   |            |      |  |   |             |   |  |   |            |  
|COMPREHENSIVE INCOME                                     |  | $                                | 13,936,618 |   |                                 | $ | 8,357,405  |      |  | $ | 32,910,499  |   |  | $ | 19,761,263 |  
|                                                         |  |                                  |            |   |                                 |   |            |      |  |   |             |   |  |   |            |  
|NET INCOME PER SHARE                                     |  |                                  |            |   |                                 |   |            |      |  |   |             |   |  |   |            |  
|BASIC                                                    |  | $                                | 0.16       |   |                                 | $ | 0.12       |      |  | $ | 0.41        |   |  | $ | 0.30       |  
|                                                         |  |                                  |            |   |                                 |   |            |      |  |   |             |   |  |   |            |  
|DILUTED                                                  |  | $                                | 0.16       |   |                                 | $ | 0.12       |      |  | $ | 0.40        |   |  | $ | 0.30       |  
|                                                         |  |                                  |            |   |                                 |   |            |      |  |   |             |   |  |   |            |  
|WEIGHTED AVERAGE SHARES OUTSTANDING                      |  |                                  |            |   |                                 |   |            |      |  |   |             |   |  |   |            |  
|BASIC                                                    |  |                                  | 74,379,650 |   |                                 |   | 62,704,918 |      |  |   | 68,012,018  |   |  |   | 62,200,836 |  
|DILUTED                                                  |  |                                  | 75,331,015 |   |                                 |   | 62,849,767 |      |  |   | 69,234,193  |   |  |   | 62,328,290 |  

See accompanying notes to the condensed consolidated financial statements



Page 5 of 39



---

##### Table of Contents

AMERICAN ORIENTAL BIOENGINEERING, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOW

(UNAUDITED)



|                                                                                  |  |                                 |             |   |      |             |  
|--------------------------------------------------------------------------------- |  | ------------------------------- | ----------- | - | ---- | ----------- | -
|                                                                                  |  | NINE MONTHS ENDED SEPTEMBER 30, |            
|                                                                                  |  | 2007                            |             |   | 2006 |            
|CASH FLOWS FROM OPERATING ACTIVITIES:                                             |  |                                 |             |   |      |             |  
|Net income                                                                        |  | $                               | 28,026,185  |   |      | 18,411,931  |  
|Adjustments to reconcile net income to net cash provided by operating activities: |  |                                 |             |   |      |             |  
|Depreciation and amortization                                                     |  |                                 | 2,424,237   |   |      | 1,756,574   |  
|Loss on disposal of plant and equipment                                           |  |                                 | 427         |   |      | 1,138       |  
|Gain on sale of marketable securities                                             |  |                                 |            |   |      | (843        | )
|Amortization of deferred consulting expenses                                      |  |                                 | 329,100     |   |      | 609,370     |  
|Provision for doubtful accounts                                                   |  |                                 | 66,405      |   |      | (226,360    | )
|Provision for slow moving inventories                                             |  |                                 | 10,709      |   |      | 28,185      |  
|Deferred taxes                                                                    |  |                                 | 245,609     |   |      | 32,146      |  
|Common stock to be issued for services                                            |  |                                 | 197,083     |   |      | 87,598      |  
|Stock option compensation expense                                                 |  |                                 | 175,720     |   |      | 105,154     |  
|Equity income from unconsolidated entity                                          |  |                                 | (14,848     | ) |      | (8,133      | )
|Changes in operating assets and liabilities, net of effects of acquisitions:      |  |                                 |             |   |      |             |  
|(Increase) Decrease In:                                                           |  |                                 |             |   |      |             |  
|Accounts receivable                                                               |  |                                 | (3,913,584  | ) |      | (946,589    | )
|Notes receivable                                                                  |  |                                 | 1,014,478   |   |      | 13,975      |  
|Inventories                                                                       |  |                                 | (4,675,990  | ) |      | (5,257,872  | )
|Advances to suppliers                                                             |  |                                 | 465,124     |   |      | 1,386,841   |  
|Prepaid expenses and other receivables                                            |  |                                 | (199,049    | ) |      | 77,567      |  
|Due from employees                                                                |  |                                 | 394,201     |   |      | (259,626    | )
|Increase (Decrease) In:                                                           |  |                                 |             |   |      |             |  
|Accounts payable                                                                  |  |                                 | 2,162,213   |   |      | (1,496,046  | )
|Other payables and accrued expenses                                               |  |                                 | 1,998,417   |   |      | (44,426     | )
|Taxes payable                                                                     |  |                                 | (33,386     | ) |      | 252,440     |  
|Customer deposits                                                                 |  |                                 | (869,835    | ) |      | 41,381      |  
|Other liabilities                                                                 |  |                                 | (813,455    | ) |      | 593,912     |  
|                                                                                  |  |                                 |             |   |      |             |  
|Net cash provided by operating activities                                         |  |                                 | 26,989,761  |   |      | 15,158,317  |  
|                                                                                  |  |                                 |             |   |      |             |  
|CASH FLOWS FROM INVESTING ACTIVITIES:                                             |  |                                 |             |   |      |             |  
|Purchases of construction in progress                                             |  |                                 | (628,614    | ) |      | (1,340,348  | )
|Purchases of plant and equipment                                                  |  |                                 | (1,352,252  | ) |      | (2,039,013  | )
|Deposit for acquisition                                                           |  |                                 | (4,420,770  | ) |      |            |  
|Purchases of subsidiary, net of cash acquired                                     |  |                                 | (16,817,410 | ) |      | (22,060,688 | )
|Proceeds from sales of marketable securities                                      |  |                                 |            |   |      | 3,611       |  
|                                                                                  |  |                                 |             |   |      |             |  
|Net cash used in investing activities                                             |  |                                 | (23,219,046 | ) |      | (25,436,438 | )
|                                                                                  |  |                                 |             |   |      |             |  
|CASH FLOWS FROM FINANCING ACTIVITIES                                              |  |                                 |             |   |      |             |  
|Proceeds from short-term bank loans                                               |  |                                 | 5,999,324   |   |      | 1,882,903   |  
|Prepayments of short-term bank loans                                              |  |                                 | (9,945,084  | ) |      | (1,638,401  | )
|Proceeds from long-term bank loans                                                |  |                                 |            |   |      | 968,994     |  
|Prepayments of long-term bank loans                                               |  |                                 |            |   |      | (604,886    | )
|Repayment of notes payable                                                        |  |                                 |            |   |      | (1,606,692  | )
|Repayments of capital lease                                                       |  |                                 | (11,937     | ) |      | (9,726      | )
|Cash proceeds from sales of common stock, net                                     |  |                                 | 73,030,974  |   |      | 24,974,955  |  
|Cash contribution from shareholder                                                |  |                                 | 150,900     |   |      |            |  
|Proceeds from exercise of options                                                 |  |                                 | 198,538     |   |      |            |  
|Proceeds from exercise of warrants                                                |  |                                 | 6,251,394   |   |      |            |  
|                                                                                  |  |                                 |             |   |      |             |  
|Net cash provided by financing activities                                         |  |                                 | 75,674,109  |   |      | 23,967,147  |  
|                                                                                  |  |                                 |             |   |      |             |  
|NET INCREASE IN CASH AND CASH EQUIVALENTS                                         |  |                                 | 79,444,824  |   |      | 13,689,026  |  
|Effect of exchange rate changes on cash                                           |  |                                 | 3,394,762   |   |      | 643,346     |  
|Cash and cash equivalents, beginning of period                                    |  |                                 | 87,784,419  |   |      | 57,532,049  |  
|                                                                                  |  |                                 |             |   |      |             |  
|CASH AND CASH EQUIVALENTS, END OF PERIOD                                          |  | $                               | 170,624,005 |   |      | 71,864,421  |  
|                                                                                  |  |                                 |             |   |      |             |  

See accompanying notes to the condensed consolidated financial statements



Page 6 of 39



---

##### Table of Contents

AMERICAN ORIENTAL BIOENGINEERING, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

AS OF SEPTEMBER 30, 2007

(UNAUDITED)

NOTE 1  BASIS OF PRESENTATION

The unaudited condensed
consolidated financial statements of American Oriental Bioengineering, Inc. and subsidiaries (the Company) have been prepared in accordance with U.S. generally accepted accounting principles for interim financial information and pursuant
to the requirements for reporting on Form 10-Q. Accordingly, they do not include all the information and footnotes required by accounting principles generally accepted in the United States of America for annual financial statements. However, the
information included in these interim financial statements reflects all adjustments (consisting solely of normal recurring adjustments) which are, in the opinion of management, necessary for the fair presentation of the consolidated financial
position and the consolidated results of operations. Results shown for interim periods are not necessarily indicative of the results to be obtained for a full year. The condensed consolidated balance sheet information as of December 31, 2006
was derived from the audited consolidated financial statements included in the Companys Annual Report on Form 10-K. These interim financial statements should be read in conjunction with that report.

NOTE 2  USE OF ESTIMATES

The preparation of financial
statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date
of the financial statements, and the reported amounts of revenue and expenses during the reporting period. Actual results when ultimately realized could differ from those estimates. See Critical Accounting Policies and Estimates in the
Managements Discussion and Analysis of Financial Condition and Results of Operations section below.

NOTE 3  SIGNIFICANT ACCOUNTING
POLICIES AND NEW PRONOUNCEMENT

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

InventoriesInventories consisting of raw materials, work-in-progress and finished
goods are stated at the lower of weighted average cost or market value. Finished goods are comprised of direct materials, direct labor and an appropriate proportion of overhead.

Revenue RecognitionRevenues represent the invoiced value of goods sold, recognized upon the shipment of goods to customers. Revenues are recognized when all of the following criteria are met:



| |  | Persuasive evidence of an arrangement exists,
|- |  | ---------------------------------------------



| |  | Delivery has occurred or services have been rendered,
|- |  | -----------------------------------------------------



| |  | The sellers price to the buyer is fixed or determinable, and
|- |  | -------------------------------------------------------------



| |  | Collectibility is reasonably assured.
|- |  | -------------------------------------

The Company
established a subsidiary in Hong Kong and sells its products through third party retail stores on consignment. The Company records revenue for consignment transactions when the consignee sells the product to the end user.

Stock Based CompensationThe Company adopted Statement of Financial Accounting Standards (SFAS) No. 123R in the first quarter of 2006, at
which time the Company began recognizing an expense for unvested share-based compensation that has been issued or will be issued after that date. The Company adopted SFAS No. 123R on a prospective basis.



Page 7 of 39



---

##### Table of Contents

AMERICAN ORIENTAL BIOENGINEERING, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

AS OF SEPTEMBER 30, 2007

(UNAUDITED)



The Company estimates fair value of restricted stock based on the number of shares granted and the quoted price of
the Companys common stock on the date of grant. The fair value of stock options is estimated using the Black-Scholes model. The Companys expected volatility assumption is based on the historical volatility of Companys stock. The
expected life assumption is primarily based on historical exercise patterns and post-vesting termination behavior. The risk-free interest rate for the expected term of the option is based on the U.S. Treasury yield curve in effect at the time of
grant.

Stock compensation expense recognized is based on awards expected to vest, and there were no estimated forfeitures as the current options
outstanding were only issued to founders and senior executives of the Company. SFAS No. 123R requires forfeitures to be estimated at the time of grant and revised in subsequent periods, if necessary, if actual forfeitures differ from those
estimates.

The fair value of the stock based compensation expense for the three and nine months ended September 30, 2007 was $110,380 and $175,720,
respectively.

Adoption of New Accounting PolicyEffective January 1, 2007, the Company adopted Financial Accounting Standards Board
Interpretation No. 48, Accounting for Uncertainty in Income Taxes (FIN 48).  an interpretation of FASB Statement No. 109, Accounting for Income Taxes.The Interpretation addresses the determination of whether tax
benefits claimed or expected to be claimed on a tax return should be recorded in the financial statements. Under FIN 48, we may recognize the tax benefit from an uncertain tax position only if it is more likely than not that the tax position will be
sustained on examination by the taxing authorities, based on the technical merits of the position. The tax benefits recognized in the financial statements from such a position should be measured based on the largest benefit that has a greater than
fifty percent likelihood of being realized upon ultimate settlement. FIN 48 also provides guidance on derecognition, classification, interest and penalties on income taxes, accounting in interim periods and requires increased disclosures. At the
date of adoption, and as of September 30, 2007, the Company does not have a liability for unrecognized tax benefits.

The Company files income tax
returns in the U.S. federal jurisdiction and various states. The Company is subject to U.S. federal or state income tax examinations by tax authorities for years after 2002. During the periods open to examination, the Company has net operating loss
and tax credit carry forwards for U.S. federal and state tax purposes that have attributes from closed periods. Since these NOLs and tax credit carry forwards may be utilized in future periods, they remain subject to examination. The Company also
files certain tax returns in China. As of September 30, 2007 the Company was not aware of any pending income tax examinations by China tax authorities.

The Companys policy is to record interest and penalties on uncertain tax positions as income tax expense. As of September 30, 2007, the Company has no accrued interest or penalties related to uncertain tax positions.

New Accounting PronouncementIn September 2006, the Financial Accounting Standard Board (FASB) issued SFAS No. 157, Fair Value
Measurements, which provides enhanced guidance for using fair value to measure assets and liabilities. SFAS No. 157 provides a common definition of fair value and establishes a framework to make the measurement of fair value in generally
accepted accounting principles more consistent and comparable. SFAS No. 157 also requires expanded disclosures to provide information about the extent to which fair value is used to measure assets and liabilities, the methods and assumptions
used to measure fair value, and the effect of fair value measures on earnings. SFAS No. 157 is effective for financial statements



Page 8 of 39



---

##### Table of Contents

AMERICAN ORIENTAL BIOENGINEERING, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

AS OF SEPTEMBER 30, 2007

(UNAUDITED)



issued in fiscal years beginning after November 15, 2007 and to interim periods within those fiscal years. The Company is currently in the process of
evaluating the effect, if any, the adoption of SFAS No. 157 will have on its consolidated results of operations, financial position, or cash flows.

In February 2007, the FASB issued FASB Statement No. 159, The Fair Value Option for Financial Assets and Financial Liabilities  including an amendment of FASB Statement No. 115 (FAS 159). FAS 159 will become effective for
the company on January 1, 2008. This standard permits companies to choose to measure many financial instruments and certain other items at fair value and report unrealized gains and losses in earnings. Such accounting is optional and is
generally to be applied instrument by instrument. The Company does not anticipate that the election, if any, of this fair-value option will have a material effect on results or operations or consolidated financial position.

NOTE 4  EARNINGS PER SHARE

Basic earnings per share are
computed by dividing income available to common shareholders by the weighted-average number of common shares outstanding during the period. Diluted earnings per share is computed similar to basic earnings per share except that the denominator is
increased to include the number of additional common shares that would have been outstanding if the potential common shares had been issued and if the additional common shares were dilutive.

Basic and diluted earnings per share are calculated as follows:



|                                            |  |                                  |            |                                 |   |            |  |      |            |  |   |           
|------------------------------------------- |  | -------------------------------- | ---------- | ------------------------------- | - | ---------- |  | ---- | ---------- |  | - | ----------
|                                            |  | THREE MONTHS ENDED SEPTEMBER 30, |            | NINE MONTHS ENDED SEPTEMBER 30,
|                                            |  | 2007                             |            | 2006                            |   | 2007       |  | 2006
|Basic:                                      |  |                                  |            |                                 |   |            |  |      |            |  |   |           
|Income applicable to common shareholders    |  | $                                | 11,943,626 |                                 | $ | 7,550,624  |  | $    | 28,026,185 |  | $ | 18,411,931
|Weighted average shares outstanding         |  |                                  | 74,379,650 |                                 |   | 62,704,918 |  |      | 68,012,018 |  |   | 62,200,836
|                                            |  |                                  |            |                                 |   |            |  |      |            |  |   |           
|Basic earnings per share                    |  | $                                | 0.16       |                                 | $ | 0.12       |  | $    | 0.41       |  | $ | 0.30      
|                                            |  |                                  |            |                                 |   |            |  |      |            |  |   |           
|Diluted:                                    |  |                                  |            |                                 |   |            |  |      |            |  |   |           
|Income applicable to common shareholders    |  | $                                | 11,943,626 |                                 | $ | 7,550,624  |  | $    | 28,026,185 |  | $ | 18,411,931
|Weighted average shares outstanding         |  |                                  | 74,379,650 |                                 |   | 62,704,918 |  |      | 68,012,018 |  |   | 62,200,836
|Effect of dilutive securities:              |  |                                  |            |                                 |   |            |  |      |            |  |   |           
|Stock options                               |  |                                  |           |                                 |   | 48,892     |  |      |           |  |   | 48,312    
|Warrants                                    |  |                                  | 951,365    |                                 |   | 95,957     |  |      | 1,222,175  |  |   | 79,142    
|                                            |  |                                  |            |                                 |   |            |  |      |            |  |   |           
|Diluted weighted average shares outstanding |  |                                  | 75,331,015 |                                 |   | 62,849,767 |  |      | 69,234,193 |  |   | 62,328,290
|                                            |  |                                  |            |                                 |   |            |  |      |            |  |   |           
|Diluted earnings per share                  |  | $                                | 0.16       |                                 | $ | 0.12       |  | $    | 0.40       |  | $ | 0.30      
|                                            |  |                                  |            |                                 |   |            |  |      |            |  |   |           



Page 9 of 39



---

##### Table of Contents

AMERICAN ORIENTAL BIOENGINEERING, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

AS OF SEPTEMBER 30, 2007

(UNAUDITED)



NOTE 5  FAIR VALUE OF FINANCIAL INSTRUMENTS

The Companys financial instruments include cash and cash equivalents, accounts receivable, advances to suppliers, notes receivable, deposit for acquisition, other
receivables, due from employees, taxes payable, accounts payable, accrued expenses, debt, customer deposits and other payables. Management has estimated that the carrying amount approximates their fair value due to their short-term nature or
long-term debt interest rates, which approximate the current market rates.

NOTE 6  FOREIGN CURRENCY TRANSLATION

The accompanying consolidated financial statements are presented in United States dollars. The functional currency of the Company is the Renminbi (RMB), the official
currency of the Peoples Republic of China. Capital accounts of the consolidated financial statements are translated into United States dollars from RMB at their historical exchange rates when the capital transactions occurred. Assets and
liabilities are translated at the exchange rates as of the balance sheet date. Income and expenditures are translated at the average exchange rate of the quarter.



|                                          |  |         |  |       
|----------------------------------------- |  | ------- |  | ------
|                                          |  | 2007    |  | 2006  
|Quarter end RMB : US$ exchange rate       |  | 7.51756 |  | 7.9087
|Average quarterly RMB : US$ exchange rate |  | 7.57116 |  | 7.9522

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 dollars at the rates used in translation.

NOTE 7  INVENTORIES



|                                           |  |                    |            |   |                   |   |            |  
|------------------------------------------ |  | ------------------ | ---------- | - | ----------------- | - | ---------- | -
|                                           |  | September 30, 2007 |            |   | December 31, 2006 |  
|                                           |  | Unaudited          |            |   |                   |  
|Raw materials                              |  | $                  | 10,229,025 |   |                   | $ | 9,033,729  |  
|Work in progress                           |  |                    | 2,319,024  |   |                   |   | 1,219,796  |  
|Finished goods                             |  |                    | 3,416,598  |   |                   |   | 1,046,343  |  
|                                           |  |                    |            |   |                   |   |            |  
|                                           |  |                    | 15,964,647 |   |                   |   | 11,299,868 |  
|Less provision for slow moving inventories |  |                    | (615,050   | ) |                   |   | (615,552   | )
|                                           |  |                    |            |   |                   |   |            |  
|Inventories, net                           |  | $                  | 15,349,597 |   |                   | $ | 10,684,316 |  
|                                           |  |                    |            |   |                   |   |            |  



Page 10 of 39



---

##### Table of Contents

AMERICAN ORIENTAL BIOENGINEERING, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

AS OF SEPTEMBER 30, 2007

(UNAUDITED)



NOTE 8  LAND USE RIGHTS

According to the law of China, the government owns all the land in China. Companies are authorized to possess and use land through land use rights granted by the Chinese government. Land use rights are being amortized
using the straight-line method over the lease term of 40 to 50 years. Land use rights consist of the following as of September 30, 2007 and December 31, 2006:



|                               |  |                    |            |   |                   |   |            |  
|------------------------------ |  | ------------------ | ---------- | - | ----------------- | - | ---------- | -
|                               |  | September 30, 2007 |            |   | December 31, 2006 |  
|                               |  | Unaudited          |            |   |                   |  
|Cost of land use rights        |  | $                  | 42,100,958 |   |                   | $ | 33,877,618 |  
|Less: Accumulated amortization |  |                    | (1,561,683 | ) |                   |   | (939,875   | )
|                               |  |                    |            |   |                   |   |            |  
|Land use rights, net           |  | $                  | 40,539,275 |   |                   | $ | 32,937,743 |  
|                               |  |                    |            |   |                   |   |            |  

Amortization expense for the three months ended September 30, 2007 and 2006 was $201,888 and $180,023,
respectively. Amortization expense for the nine months ended September 30, 2007 and 2006 was $573,097 and $402,184, respectively. As of September 30, 2007, the net book value of land use rights pledged as collateral was $24,502,446. See
Note 11.

NOTE 9  OTHER INTANGIBLE ASSETS, NET

Other intangible assets include product licenses, trademarks and patents. Most of the other intangible assets were acquired from the new subsidiary, Changchun Xinan Pharmaceutical Group Company Limited (CCXA). Also see note 13.
The cost of the product licenses are amortized over their estimated useful lives of 10 to 12 years; the cost of trademarks are amortized over their registered useful lives of 4 to 10 years and the cost of patents are amortized over their protection
period of 7 to 8 years. Other intangible assets as of September 30, 2007 and December 31, 2006 are summarized as follows:



|                               |  |                    |            |   |                   |   |           |  
|------------------------------ |  | ------------------ | ---------- | - | ----------------- | - | --------- | -
|                               |  | September 30, 2007 |            |   | December 31, 2006 |  
|                               |  | Unaudited          |            |   |                   |  
|At cost:                       |  |                    |            |   |                   |   |           |  
|Product licenses               |  | $                  | 9,949,318  |   |                   | $ | 1,151,263 |  
|Trademarks                     |  |                    | 762,708    |   |                   |   |          |  
|Patents                        |  |                    | 222,452    |   |                   |   |          |  
|                               |  |                    |            |   |                   |   |           |  
|                               |  |                    | 10,934,478 |   |                   |   | 1,151,263 |  
|Less: Accumulated amortization |  |                    | (957,496   | ) |                   |   | (767,508  | )
|                               |  |                    |            |   |                   |   |           |  
|Other intangible assets, net   |  | $                  | 9,976,982  |   |                   | $ | 383,755   |  
|                               |  |                    |            |   |                   |   |           |  

Amortization expense for the three and nine months ended September 30, 2007 was $109,091 and $157,687,
respectively.



Page 11 of 39



---

##### Table of Contents

AMERICAN ORIENTAL BIOENGINEERING, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

AS OF SEPTEMBER 30, 2007

(UNAUDITED)



NOTE 10  PLANT AND EQUIPMENT

Plant and equipment consist of the following as of September 30, 2007 and December 31, 2006:



|                                |  |                    |             |   |                   |   |             |  
|------------------------------- |  | ------------------ | ----------- | - | ----------------- | - | ----------- | -
|                                |  | September 30, 2007 |             |   | December 31, 2006 |  
|                                |  | Unaudited          |             |   |                   |  
|At cost:                        |  |                    |             |   |                   |   |             |  
|Buildings                       |  | $                  | 36,163,746  |   |                   | $ | 27,208,232  |  
|Machinery and equipment         |  |                    | 16,650,378  |   |                   |   | 13,706,903  |  
|Motor vehicles                  |  |                    | 1,117,784   |   |                   |   | 827,740     |  
|Office equipment                |  |                    | 923,794     |   |                   |   | 664,892     |  
|Other equipment                 |  |                    | 144,948     |   |                   |   | 138,472     |  
|Leasehold improvements          |  |                    | 105,416     |   |                   |   | 75,813      |  
|                                |  |                    |             |   |                   |   |             |  
|                                |  |                    | 55,106,066  |   |                   |   | 42,622,052  |  
|                                |  |                    |             |   |                   |   |             |  
|Less : Accumulated depreciation |  |                    |             |   |                   |   |             |  
|Buildings                       |  |                    | (2,969,125  | ) |                   |   | (2,325,950  | )
|Machinery and equipment         |  |                    | (8,298,946  | ) |                   |   | (7,050,834  | )
|Motor vehicles                  |  |                    | (607,339    | ) |                   |   | (502,510    | )
|Office equipment                |  |                    | (460,302    | ) |                   |   | (398,450    | )
|Other equipment                 |  |                    | (101,907    | ) |                   |   | (91,071     | )
|Leasehold improvements          |  |                    | (72,424     | ) |                   |   | (58,280     | )
|                                |  |                    |             |   |                   |   |             |  
|                                |  |                    | (12,510,043 | ) |                   |   | (10,427,095 | )
|                                |  |                    |             |   |                   |   |             |  
|Plant and equipment, net        |  | $                  | 42,596,023  |   |                   | $ | 32,194,957  |  
|                                |  |                    |             |   |                   |   |             |  

Depreciation expense for the three months ended September 30, 2007 and 2006 was $598,682 and $481,727,
respectively. Depreciation expense for the nine months ended September 30, 2007 and 2006 was $1,695,820 and $1,283,985, respectively. As of September 30, 2007, the net book value of plant and equipment pledged as collateral for a bank loan
was $5,482,923. See Note 11.

NOTE 11  DEBT

Short-term bank loans are obtained from local banks with interest rates ranging from 6.12% to 7.05% per annum. All the short-term bank loans are repayable within one year and are secured by fixed assets and land use rights owned by the
Company.

Long-term bank loan include $977,739 long term bank loans repayable within one year and $2,601,679 repayable over one year, of which, $1,721,303
was acquired from CCXA and $880,376 was a mortgage obtained during 2006 for the expansion of our Hong Kong office. The current portion of the long-term bank loans is mainly from CCXA and bears 7.839% interest per annum, and is repayable by June
2008. The mortgage loan bears 5.5% interest per annum and is repayable over 15 years. Long-term loans are secured by fixed assets and land use rights owned by the Company.

Notes payable have interest rates ranging from 6.30% to 7.06% per annum. All notes payable are non-secured and repayable on demand.



Page 12 of 39



---

##### Table of Contents

AMERICAN ORIENTAL BIOENGINEERING, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

AS OF SEPTEMBER 30, 2007

(UNAUDITED)



Interest expense for the three months ended September 30, 2007 and 2006 was $212,923 and $193,382, respectively.
Interest expense for the nine months ended September 30, 2007 and 2006 was $654,789 and $430,120, respectively.

Also see Notes 8 and 10.

NOTE 12  SHAREHOLDERS EQUITY

A. Issuance of Common
Stock

The Company entered into a stock purchase agreement with a group of underwriters on June 28, 2007 and offered to sell 8,000,000 shares of
the Companys common stock. Under the same agreement, the Company also granted the underwriters an option to purchase an additional 1,275,000 to cover over-allotments. The underwriters exercised their option in full to purchase an additional
1,275,000 shares of the Companys common stock to cover over-allotments on June 30, 2007. In total, including the over-allotment shares, the Company sold 9,275,000 shares of the Companys common stock at $7.99 per share, after
underwriting discounts and commissions, resulting in net proceeds of approximately $74.1 million, which includes approximately $10.2 million in net proceeds from the exercise of the over-allotment option. The closing of the offering, including the
over-allotment shares, occurred on July 3, 2007 and 9,275,000 shares of the Companys common stock were issued on the same date.

A total of
48,379 shares of common stock were issued to three of the Companys independent directors in January 2007 for the services rendered by them through December 31, 2006. All the related stock compensation expense was fully accrued at the end
of 2006.

A total of 1,236,284 shares of common stock were issued during the first nine months of 2007 in connection with the exercise of the
Companys warrants. The Company received total proceeds of $6,251,394 from the exercise of warrants.

The Company entered into a consulting agreement
for investment banking services in February 2007 and agreed to issue 20,000 shares of common stock as part of the consulting fee and the shares were issued in August 2007. The Company recorded deferred consulting expenses of $260,000, based on the
market value of the common stock at the date of grant, which has been and will be amortized over a one-year service period. Of the total value, $162,500 was amortized through September 30, 2007.

B. Warrants.

On November 28, 2005, the Company entered into a
stock purchase and warrant agreement, (Purchase Agreement), with thirty-one (31) accredited investors. Pursuant to the Purchase Agreement, the investors purchased 12,500,000 units, each unit consisting of (a) one share of
common stock and (b) three-tenths of one common stock purchase warrant, at a purchase price of $4.80 per unit.

With the warrants attached to the
units sold in the private placement, the investors are entitled to purchase an aggregate of 3,750,000 shares of common stock at an exercise price of $6.50 per share. Upon completion of the placement, the Company paid 5% of the gross proceeds in cash
to placement agents and issued to them warrants representing the right to purchase up to 1,137,500 shares of the Companys common stock at an exercise price of $4.80 per share. All these warrants expire on December 8, 2008.



Page 13 of 39



---

##### Table of Contents

AMERICAN ORIENTAL BIOENGINEERING, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

AS OF SEPTEMBER 30, 2007

(UNAUDITED)



Warrants for 364,580 shares of common stock were exercised as of December 31, 2006. The following tables
summarize the movement of warrants during the first nine months of 2007:



|                                     |  |           |  |                                    |     
|------------------------------------ |  | --------- |  | ---------------------------------- | ----
|                                     |  | Warrants  |  | Weighted Average of Exercise Price
|Outstanding January 1, 2007          |  | 4,522,920 |  | $                                  | 5.51
|Granted                              |  |          |  |                                    |    
|Exercised                            |  | 1,236,285 |  | $                                  | 5.36
|Cancelled                            |  |          |  |                                    |    
|                                     |  |           |  |                                    |     
|Outstanding as of September 30, 2007 |  | 3,286,635 |  | $                                  | 6.48
|                                     |  |           |  |                                    |     

Also see Note 17 for subsequent events related to the exercise of warrants.

C. Stock Options

A new stock incentive plan (the 2006
Plan) was approved by shareholders of the Company at an annual shareholders meeting held in November 2006. The 2006 Plan replaced the Companys stock option plan adopted by the Companys Board of Directors in March 2004 (the
2004 Plan). All stock options granted under the 2004 Plan will remain in effect pursuant to the terms of the respective grant agreements. As of December 31, 2006, the Company had issued a total of 99,269 options under the 2004 Plan
to four of the Companys executives pursuant to their respective employment agreements. In April 2007, the Companys Compensation Committee approved new compensation packages and the Company entered into new 2007 employment agreements with
the four executives. The executives have agreed to waive their right to receive stock options under their prior employment agreements. In August 2007, the executives exercised all the vested options and the Company issued 99,269 shares of common
stock in connection with the exercise of the options.

On April 20, 2007, the Compensation Committee of the Board of Directors of the Company approved
the grant of stock options to the Companys principal executive officer, principal financial officer and certain other executives. Stock options for 660,000 shares of common stock were granted under the 2006 Plan and will vest ratably over a
five year period. The company valued the stock options at $1,960,200 and recorded $163,350 stock compensation expense through the period ended September 30, 2007. Of the total value, $1,796,850 has not yet been recognized and will be amortized
over the requisite service period. The value of the option was estimated using the Black Scholes Model with an expected volatility of 19.3%, expected life of 5 years and risk-free interest rate of 4.6%.

On August 20, 2007, the Compensation Committee of the Board of Directors of the Company approved the grant of stock options to the Companys senior management
and other executives. Stock options for 314,500 shares of common stock were granted among forty employees under the 2006 Plan and will vest ratably over a five year period. The company valued the stock options at $742,220 and recorded $12,370 stock
compensation expense for the period ended September 30, 2007. Of the total value, $729,850 has not yet been recognized and will be amortized over the requisite service period. The value of the option was estimated using the Black Scholes Model
with an expected volatility of 19.3%, expected life of 5 years and risk-free interest rate of 4.6%.



Page 14 of 39



---

##### Table of Contents

AMERICAN ORIENTAL BIOENGINEERING, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

AS OF SEPTEMBER 30, 2007

(UNAUDITED)



The following table summarizes the stock option activity:



|                                     |  |          |  |                                 |      
|------------------------------------ |  | -------- |  | ------------------------------- | -----
|                                     |  | Activity |  | Weighted Average Exercise Price
|Outstanding January 1, 2007          |  | 99,269   |  | $                               | 2.00 
|Granted                              |  | 974,500  |  |                                 | 10.03
|Exercised                            |  | 99,269   |  |                                 | 2.00 
|Cancelled                            |  |         |  |                                 |     
|                                     |  |          |  |                                 |      
|Outstanding as of September 30, 2007 |  | 974,500  |  | $                               | 10.03
|                                     |  |          |  |                                 |      

The following table summarizes information about stock options outstanding as of September 30, 2007:



|                         |       |                     |         |                                |   |                                                      |  |                  |  |                                |  |  
|------------------------ | ----- | ------------------- | ------- | ------------------------------ | - | ---------------------------------------------------- |  | ---------------- |  | ------------------------------ |  | -
|                         |       | Options Outstanding |         | Options Exercisable           
|Range of Exercise Prices |       | Number of Shares    |         | Weighted AverageExercise Price |   | Weighted
AverageRemainingContractual Life (in years) |  | Number of Shares |  | Weighted AverageExercise Price
|$                        | 8.54  |                     | 314,500 |                                | $ | 8.54                                                 |  | 5.00             |  |                               |  | 
|$                        | 10.74 |                     | 660,000 |                                | $ | 10.74                                                |  | 5.00             |  |                               |  | 
|                         |       |                     |         |                                |   |                                                      |  |                  |  |                                |  |  
|                         |       |                     | 974,500 |                                |   |                                                      |  |                  |  |                               |  |  
|                         |       |                     |         |                                |   |                                                      |  |                  |  |                                |  |  

The weighted average fair value per share of the 974,500 options issued under the Plan is $2.77 per share.

D. Common Stock to be Issued

For the nine months
ended September 30, 2007, the Company recorded general and administrative expenses of $197,083 for stock compensation in connection with the services rendered by the Companys independent directors. A total of 18,318 shares of common stock
are issuable to independent directors as of September 30, 2007. Common stock is expected to be issued at the beginning of 2008 pursuant to the service agreements with the Companys independent directors.



Page 15 of 39



---

##### Table of Contents

AMERICAN ORIENTAL BIOENGINEERING, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

AS OF SEPTEMBER 30, 2007

(UNAUDITED)



NOTE 13  CCXA ACQUISITION

On September 5, 2007, the Company acquired from Changchun Xinan Pharmaceutical Group Company Limited (CCXA) shareholders all of the issued and outstanding shares of capital stock of CCXA. CCXA is a
pharmaceutical company specializing in manufacturing and distribution of plant-based medicines and is based in Changchun, Jilin Province, China. CCXAs products cover both the prescription and OTC markets and the majority of sales come from its
OTC products. Some of these products include Nubao, a blood circulation enhancer for treatment of premenstrual symptoms; Kanguzensheng Tablet for the treatment of osteophyte; Yakangling, a plant-based pharmaceutical product that treats gingivitis;
and Nanbao, a plant based male sexual drive enhancer.

The acquisition cost was $29,418,529 in cash (including $1,418,529 of transaction costs). Part of
the consideration was paid as of the closing of the acquisition and the balance of consideration still outstanding was $11,681,890 as of September 30, 2007. The balance of consideration still outstanding as of the date of this report is
$5,687,924. The accompanying condensed consolidated financial statements include the following allocation of the acquisition cost to the net assets acquired based on their respective fair values.



|                                   |  |   |           
|---------------------------------- |  | - | ----------
|Land use right                     |  | $ | 6,836,912 
|Other intangible assets            |  |   | 9,688,027 
|Fixed assets                       |  |   | 9,051,130 
|Cash                               |  |   | 700       
|Accounts receivable                |  |   | 345,657   
|Inventories                        |  |   | 951,831   
|Other receivables and prepayments  |  |   | 55,640    
|Other current assets               |  |   | 41,643    
|                                   |  |   |           
|Total assets purchased             |  |   | 26,971,540
|                                   |  |   |           
|Other payables and accrued expense |  |   | 195,475   
|Long term bank loans               |  |   | 2,639,039 
|Deferred tax payables              |  |   | 4,252,667 
|                                   |  |   |           
|Total liabilities assumed          |  |   | 7,087,181 
|                                   |  |   |           
|Net assets acquired                |  |   | 19,884,359
|Total consideration paid           |  |   | 29,418,529
|                                   |  |   |           
|Goodwill                           |  | $ | 9,534,170 
|                                   |  |   |           

The results of operations for CCXA for the period are included in the consolidated results of operations
commencing September 6, 2007.



Page 16 of 39



---

##### Table of Contents

AMERICAN ORIENTAL BIOENGINEERING, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

AS OF SEPTEMBER 30, 2007

(UNAUDITED)



The following unaudited pro forma combined condensed statements of income for the period ended September 30,
2007 and 2006 have been prepared as if the acquisition had occurred on January 1, 2007 and 2006. The statements are based on accounting for the business acquisition under purchase accounting. The pro forma information may not be indicative of
the results that actually would have occurred if the acquisition had been in effect from and on the dates indicated or which may be obtained in the future.



|                       |  |                                                   |             |      |   |           
|---------------------- |  | ------------------------------------------------- | ----------- | ---- | - | ----------
|                       |  | Pro Forma Combined NineMonths Ended September 30,
|                       |  | 2007                                              |             | 2006
|Revenues               |  | $                                                 | 110,308,877 |      | $ | 75,393,237
|Income from Operations |  |                                                   | 34,444,271  |      |   | 23,797,225
|Net Income             |  | $                                                 | 28,644,604  |      | $ | 19,053,081
|Net Income Per Share   |  |                                                   |             |      |   |           
|Basic                  |  | $                                                 | 0.42        |      | $ | 0.30      
|Diluted                |  | $                                                 | 0.41        |      | $ | 0.30      
|                       |  |                                                  
|Basic                  |  |                                                   | 68,012,018  |      |   | 63,387,650
|Diluted                |  |                                                   | 69,234,193  |      |   | 63,515,103

NOTE 14  COMMITMENTS

Capital Commitment

The Company entered into an unconditional purchase commitment for construction of manufacturing
facilities in Harbin and Guangxi, China. As of September 30, 2007, the future obligations of the Company under this commitment are as follows:



|                |  |   |        
|--------------- |  | - | -------
|Within one year |  | $ | 155,902
|Thereafter      |  |   |       
|                |  |   |        
|Total           |  | $ | 155,902
|                |  |   |        

Purchase Commitment

The Company entered into an unconditional purchase commitment for raw materials and packing materials. As of September 30, 2007, the future obligations of the Company under this commitment are as follows:



|                |  |   |          
|--------------- |  | - | ---------
|Within one year |  | $ | 8,906,004
|Thereafter      |  |   |         
|                |  |   |          
|Total           |  | $ | 8,906,004
|                |  |   |          



Page 17 of 39



---

##### Table of Contents

AMERICAN ORIENTAL BIOENGINEERING, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

AS OF SEPTEMBER 30, 2007

(UNAUDITED)



Lease Commitments

As of September 30, 2007, the Company had remaining outstanding commitments with respect to its non-cancelable operating leases for its offices in New York, Shenzhen and some regional representative offices in China. The future
obligations of the Company under these commitments are as follows:



|                |  |   |        
|--------------- |  | - | -------
|Within one year |  | $ | 125,005
|Thereafter      |  |   | 108,978
|                |  |   |        
|Total           |  | $ | 233,983
|                |  |   |        

NOTE 15  REPORTING SEGMENTS

The Company operates in one operating segment in accordance with the provisions of Statement of Financial Accounting Standard (SFAS) No. 131, Disclosures about Segments of an Enterprise and
Related Information. Although the Company develops, manufactures and commercializes both PBP and PBN products, the Companys chief operating decision maker reviews and evaluates one set of combined financial information to decide how
to allocate resources and to assess performance.

For the three months and nine months ended September 30, 2007 and 2006, the Companys revenue
from Plant Based Pharmaceutical (PBP) products and Plant Based Nutraceutical (PBN) products are as follows:



|             |  |                                  |            |                                 |   |            |  |      |             |  |   |           
|------------ |  | -------------------------------- | ---------- | ------------------------------- | - | ---------- |  | ---- | ----------- |  | - | ----------
|             |  | THREE MONTHS ENDED SEPTEMBER 30, |            | NINE MONTHS ENDED SEPTEMBER 30,
|             |  | 2007                             |            | 2006                            |   | 2007       |  | 2006
|PBP products |  | $                                | 35,485,502 |                                 | $ | 19,888,356 |  | $    | 79,948,350  |  | $ | 48,200,312
|PBN products |  |                                  | 8,028,547  |                                 |   | 7,186,703  |  |      | 23,114,223  |  |   | 21,037,777
|             |  |                                  |            |                                 |   |            |  |      |             |  |   |           
|TOTAL        |  | $                                | 43,514,049 |                                 | $ | 27,075,059 |  | $    | 103,062,573 |  | $ | 69,238,089
|             |  |                                  |            |                                 |   |            |  |      |             |  |   |           

NOTE 16  INCOME TAX

The Company has not recorded a provision for federal income tax for the nine months ended September 30, 2007 due to the net operating loss carry forward in the United States. In accordance with the relevant tax
laws and regulations of the Peoples Republic of China (PRC), the Corporate Income Tax rate (CIT) applicable to our subsidiaries in the PRC range from 0% to 33%. Guangxi Lingfeng Pharmaceutical Company Ltd.
(GLP) is entitled to a full exemption from CIT for the first two years and a 50% reduction in CIT for the next three years, commencing from the first profitable year after offsetting all tax losses carried forward from the previous five
years. Harbin Three Happiness Pharmaceutical Company Ltd (Three Happiness), on the other hand, enjoys a favorable tax rate of 15% as it is located in a special economic development zone and is being considered a high technology company
by the Chinese government. Heilongjiang Songhuajiang Pharmaceutical Company Ltd (HSPL), Heilongjiang Qitai Pharmaceutical Company Ltd (HQPL) and CCXA do not qualify for any tax concession and have a 33% tax rate.



Page 18 of 39



---

##### Table of Contents

AMERICAN ORIENTAL BIOENGINEERING, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

AS OF SEPTEMBER 30, 2007

(UNAUDITED)



On March 16, 2007, the National Peoples Congress of China approved the Corporate Income Tax Law of the
Peoples Republic of China (the New CIT Law), which is effective from January 1, 2008. Under the new CIT law, the corporate income tax rate applicable to the Company starting from January 1, 2008 will be 25%, replacing the
current applicable tax rate of 33%. The new CIT Law has an impact on the deferred tax assets and liabilities of the Company. As there is still no detailed implementation rulings released, the Company adjusted deferred tax balances as of
September 30, 2007 based on their best estimates and will continue to assess the impact of such new law in the future. Effects arising from the enforcement of the new CIT Law were reflected into the accounts by best estimation method.

The Companys tax expense differs from the expected tax expense for the three months and nine months ended September 30, 2007 and
2006 are as follows:



|                            |  |                                  |           |                                 |      |           |      |   |           |  |           |  
|--------------------------- |  | -------------------------------- | --------- | ------------------------------- | ---- | --------- | ---- | - | --------- |  | --------- | -
|                            |  | THREE MONTHS ENDED SEPTEMBER 30, |           | NINE MONTHS ENDED SEPTEMBER 30, |     
|                            |  | 2007                             |           |                                 | 2006 |           | 2007 |   | 2006      | 
|Computed expected expense |  | $                                | 2,398,089 |                                 |      | 1,904,773 |      | $ | 5,838,313 |  | 5,007,565 |  
|Permanent difference        |  |                                  | (11,900   | )                               |      | 10,493    |      |   | 8,230     |  | (85,146   | )
|                            |  |                                  |           |                                 |      |           |      |   |           |  |           |  
|Income tax expense          |  | $                                | 2,386,189 |                                 |      | 1,915,266 |      | $ | 5,846,543 |  | 4,922,419 |  
|                            |  |                                  |           |                                 |      |           |      |   |           |  |           |  

The provisions for income taxes for the three months and nine months ended September 30, 2007 and 2006, are
summarized as follows:



|         |  |                                  |           |                                 |           |      |   |           |  |          
|-------- |  | -------------------------------- | --------- | ------------------------------- | --------- | ---- | - | --------- |  | ---------
|         |  | THREE MONTHS ENDED SEPTEMBER 30, |           | NINE MONTHS ENDED SEPTEMBER 30,
|         |  | 2007                             |           | 2006                            |           | 2007 |   | 2006     
|Current  |  | $                                | 2,351,030 |                                 | 1,904,773 |      | $ | 5,795,877 |  | 4,890,273
|Deferred |  |                                  | 35,159    |                                 | 10,493    |      |   | 50,666    |  | 32,146   
|         |  |                                  |           |                                 |           |      |   |           |  |          
|Total    |  | $                                | 2,386,189 |                                 | 1,915,266 |      | $ | 5,846,543 |  | 4,922,419
|         |  |                                  |           |                                 |           |      |   |           |  |          

The tax effects of temporary differences that give rise to the Companys net deferred tax assets as of
September 30, 2007 and December 31, 2006 are as follows:



|                               |  |                    |            |   |                   |   |            |  
|------------------------------ |  | ------------------ | ---------- | - | ----------------- | - | ---------- | -
|                               |  | September 30, 2007 |            |   | December 31, 2006 |  
|                               |  | Unaudited          |            |   |                   |  
|Deferred tax assets            |  |                    |            |   |                   |   |            |  
|Bad debt                       |  | $                  | 206,121    |   |                   | $ | 204,636    |  
|Amortization                   |  |                    | 91,022     |   |                   |   | 81,234     |  
|Other costs                    |  |                    | 842,644    |   |                   |   | 1,011,508  |  
|Stock provision                |  |                    | 343,906    |   |                   |   | 330,711    |  
|Depreciation                   |  |                    | 117,247    |   |                   |   | 169,064    |  
|                               |  |                    |            |   |                   |   |            |  
|Total deferred tax assets      |  |                    | 1,600,940  |   |                   |   | 1,797,153  |  
|                               |  |                    |            |   |                   |   |            |  
|Deferred tax liabilities       |  |                    |            |   |                   |   |            |  
|Over accrual of welfare        |  |                    | (142,198   | ) |                   |   | (152,562   | )
|Amortization                   |  |                    | (187,257   | ) |                   |   | (178,216   | )
|Depreciation                   |  |                    | (49,430    | ) |                   |   | (45,496    | )
|Government grant               |  |                    | (863,609   | ) |                   |   | (830,475   | )
|GLP acquisition                |  |                    | (3,275,593 | ) |                   |   | (3,275,593 | )
|CCXA acquisition               |  |                    | (4,274,288 | ) |                   |   |           |  
|Others                         |  |                    | (90,386    | ) |                   |   | (98,356    | )
|                               |  |                    |            |   |                   |   |            |  
|Total deferred tax liabilities |  |                    | (8,882,761 | ) |                   |   | (4,580,698 | )
|                               |  |                    |            |   |                   |   |            |  
|Net deferred tax liabilities   |  | $                  | (7,281,821 | ) |                   | $ | (2,783,545 | )
|                               |  |                    |            |   |                   |   |            |  



Page 19 of 39



---

##### Table of Contents

AMERICAN ORIENTAL BIOENGINEERING, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

AS OF SEPTEMBER 30, 2007

(UNAUDITED)



NOTE 17  SUBSEQUENT EVENTS

Subsequent to September 30, 2007, the Company received a total of $434,852 in connection with the exercise of warrants to purchase 68,459 shares of the Companys common stock. The number of warrants
outstanding as of the date of this report is 3,218,176.

On October 18, 2007, the Company entered into and consummated an acquisition agreement with
Bonson Investment Holdings Limited (Seller), a company organized under the laws of the British Virgin Islands, pursuant to which the Company purchased from Seller all of the outstanding capital stock of Guangxi Boke Pharmaceutical
Limited (Boke), a corporation organized under the laws of the Peoples Republic of China, for a cash purchase price of $36.5 million (approximately RMB 274 million). The Company paid $4,420,770 as a deposit for the acquisition as of
September 30, 2007. Boke, located in the city of Nanning in the Guangxi Province of the Peoples Republic of China, manufactures and distributes plant-based pharmaceutical, nutraceutical and personal care products, marketed primarily in
China, with the majority of its products sold over-the-counter.



Page 20 of 39



---

##### Table of Contents

ITEM 2  MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following
discussion should be read in conjunction with the information contained in the condensed consolidated financial statements of the Company and the notes thereto appearing elsewhere herein and in conjunction with the Managements Discussion and
Analysis set forth in (1) the Companys Annual Report on Form 10-K for the year ended December 31, 2006, and (2) the Companys Quarterly Report on Form 10-Q for the quarter ended September 30, 2006. Readers should
carefully review the risk factors disclosed in the Companys Form 10-K for the year ended December 31, 2006 filed by the Company with the SEC.

As used in this report, the terms Company, we, our, us and AOBO refer to American Oriental Bioengineering, Inc., a Nevada corporation.

PRELIMINARY NOTE REGARDING FORWARD-LOOKING STATEMENTS

This quarterly
report contains forward-looking statements within the meaning of the federal securities laws. These include statements about our expectations, beliefs, intentions or strategies for the future, which we indicate by words or phrases such as
anticipate, expect, intend, plan, will, we believe, AOBO believes, management believes and similar language. The forward-looking statements are based on
the current expectations of AOBO and are subject to certain risks, uncertainties and assumptions, including those set forth in the discussion under Managements Discussion and Analysis of Financial Condition and Results of
Operations in this report. Actual results may differ materially from results anticipated in these forward-looking statements. We base the forward-looking statements on information currently available to us, and we assume no obligation to
update them.

Investors are also advised to refer to the information in our previous filings with the Securities and Exchange Commission (SEC), especially
on Forms 10-K, 10-Q and 8-K, in which we discuss in more detail various important factors that could cause actual results to differ from expected or historic results. It is not possible to foresee or identify all such factors. As such, investors
should not consider any list of such factors to be an exhaustive statement of all risks and uncertainties or potentially inaccurate assumptions.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

This section should be read together with the Summary of Significant Accounting Policies
included as Note 3 to the consolidated financial statements included in our Annual Report on Form 10-K for 2006 filed with the SEC.

Estimates affecting accounts receivable and inventories

The preparation of our consolidated financial statements requires management to
make estimates and assumptions that affect our reporting of assets and liabilities (and contingent assets and liabilities). These estimates are particularly significant where they affect the reported net realizable value of the Companys
accounts receivable and inventories.

At September 30, 2007, the Company provided a $285,007 reserve against accounts receivable. Managements
estimate of the appropriate reserve on accounts receivable at September 30, 2007 was based on the aged nature of these accounts receivable. In making its judgment, management assessed its customers ability to continue to pay their
outstanding invoices on a timely basis, and whether their financial position might deteriorate significantly in the future, which would result in their inability to pay their debts to the Company.

At September 30, 2007, the Company provided an allowance against its inventories amounting to $615,050. Management determination of this allowance is based on
potential impairments to the current carrying value of the inventories due to slow moving of aged inventories. In making its estimate, management considered the probable demand for our products in the future and historical trends in the turnover of
our inventories.



Page 21 of 39



---

##### Table of Contents

While the Company currently believes that there is little likelihood that actual results will differ materially from
these current estimates, if customer demand for our products decreases significantly in the near future, or if the financial condition of our customers deteriorates in the near future, the Company could realize significant write downs for
slow-moving inventories or uncollectible accounts receivable.

Policy affecting recognition of revenue

Among the most important accounting policies affecting our consolidated financial statements is our policy of recognizing revenue in accordance with the SECs Staff
Accounting Bulletin (SAB) No. 104. Under this policy, all of the following criteria must be met in order for us to recognize revenue:



| | 1. | Persuasive evidence of an arrangement exists;
| | -- | ---------------------------------------------



| | 2. | Delivery has occurred or services have been rendered;
| | -- | -----------------------------------------------------



| | 3. | The sellers price to the buyer is fixed or determinable; and
| | -- | -------------------------------------------------------------



| | 4. | Collectibility is reasonably assured.
| | -- | -------------------------------------

The majority of the Companys
revenue results from sales contracts with distributors and revenue is recorded upon the shipment of goods. Management conducts credit background checks for new customers as a means to reduce the subjectivity of assuring collectibility. Based on
these factors, the Company believes that it can apply the provisions of SAB 104 with minimal subjectivity.

We established a subsidiary in Hong Kong and
sell certain products to certain customers on consignment. We record revenue from consignment transactions when the consignee sells the product to the end user. Revenue from our Hong Kong subsidiary was less than 1% of the consolidated revenue of
the Company for the quarter ended September 30, 2007.

RECENT ACCOUNTING PRONOUNCEMENT

In September 2006, the Financial Accounting Standard Board (FASB) issued SFAS No. 157, Fair Value Measurements, which provides enhanced
guidance for using fair value to measure assets and liabilities. SFAS No. 157 provides a common definition of fair value and establishes a framework to make the measurement of fair value in generally accepted accounting principles more
consistent and comparable. SFAS No. 157 also requires expanded disclosures to provide information about the extent to which fair value is used to measure assets and liabilities, the methods and assumptions used to measure fair value, and the
effect of fair value measures on earnings. SFAS No. 157 is effective for financial statements issued in fiscal years beginning after November 15, 2007 and to interim periods within those fiscal years. The Company is currently in the
process of evaluating the effect, if any, the adoption of SFAS No. 157 will have on its consolidated results of operations, financial position, or cash flows.

In February 2007, the FASB issued FASB Statement No. 159, The Fair Value Option for Financial Assets and Financial Liabilities  including an amendment of FASB Statement No. 115 (FAS 159). FAS 159 will become effective for
the company on January 1, 2008. This standard permits companies to choose to measure many financial instruments and certain other items at fair value and report unrealized gains and losses in earnings. Such accounting is optional and is
generally to be applied instrument by instrument. The company does not anticipate that the election, if any, of this fair-value option will have a material effect on results or operations or consolidated financial position.



Page 22 of 39



---

##### Table of Contents

RESULTS OF OPERATIONS  THREE MONTHS ENDED SEPTEMBER 30, 2007 AS COMPARED TO THREE MONTHS ENDED SEPTEMBER 30,
2006

The following table sets forth the amounts and the percentage relationship to revenues of certain items in our condensed consolidated statements
of income for the three months ended September 30, 2007 and 2006:



|                              |  |                                  |            |                                 |      |   |            |  |     |      |  |     |  
|----------------------------- |  | -------------------------------- | ---------- | ------------------------------- | ---- | - | ---------- |  | --- | ---- |  | --- | -
|                              |  | THREE MONTHS ENDED SEPTEMBER 30, |            | THREE MONTHS ENDEDSEPTEMBER 30, |     
|                              |  | 2007                             |            |                                 | 2006 |   | 2007       |  |     | 2006 | 
|REVENUES                      |  | $                                | 43,514,049 |                                 |      | $ | 27,075,059 |  | 100 | %    |  | 100 | %
|COST OF GOODS SOLD            |  |                                  | 12,833,252 |                                 |      |   | 9,373,245  |  | 29  |      |  | 35  |  
|                              |  |                                  |            |                                 |      |   |            |  |     |      |  |     |  
|GROSS PROFIT                  |  |                                  | 30,680,797 |                                 |      |   | 17,701,814 |  | 71  |      |  | 65  |  
|                              |  |                                  |            |                                 |      |   |            |  |     |      |  |     |  
|Selling and marketing         |  |                                  | 5,644,776  |                                 |      |   | 2,230,490  |  | 13  |      |  | 8   |  
|Advertising                   |  |                                  | 6,934,160  |                                 |      |   | 3,607,212  |  | 16  |      |  | 13  |  
|General and administrative    |  |                                  | 3,742,364  |                                 |      |   | 2,223,335  |  | 9   |      |  | 8   |  
|Depreciation and amortization |  |                                  | 377,856    |                                 |      |   | 288,070    |  | 1   |      |  | 1   |  
|                              |  |                                  |            |                                 |      |   |            |  |     |      |  |     |  
|Total operating expenses      |  |                                  | 16,699,156 |                                 |      |   | 8,349,107  |  | 39  |      |  | 30  |  
|                              |  |                                  |            |                                 |      |   |            |  |     |      |  |     |  
|INCOME FROM OPERATIONS        |  |                                  | 13,981,641 |                                 |      |   | 9,352,707  |  | 32  |      |  | 35  |  
|Interest income, net          |  |                                  | 360,365    |                                 |      |   | 106,804    |  | 1   |      |  | 0   |  
|Other income(expense), net    |  |                                  | (12,191    | )                               |      |   | 6,379      |  | 0   |      |  | 0   |  
|                              |  |                                  |            |                                 |      |   |            |  |     |      |  |     |  
|INCOME BEFORE INCOME TAXES    |  |                                  | 14,329,815 |                                 |      |   | 9,465,890  |  | 33  |      |  | 35  |  
|Income taxes                  |  |                                  | 2,386,189  |                                 |      |   | 1,915,266  |  | 6   |      |  | 7   |  
|                              |  |                                  |            |                                 |      |   |            |  |     |      |  |     |  
|NET INCOME                    |  | $                                | 11,943,626 |                                 |      | $ | 7,550,624  |  | 27  |      |  | 28  |  
|                              |  |                                  |            |                                 |      |   |            |  |     |      |  |     |  

Revenues

Revenues for the third quarter of 2007 were $43,514,049, an increase of $16,438,990 over revenues for the third quarter of 2006. Revenues by product categories were as follows:



|             |  |                                 |            |                     |   |                     |  |            |  |    |  
|------------ |  | ------------------------------- | ---------- | ------------------- | - | ------------------- |  | ---------- |  | -- | -
|             |  | THREE MONTHS ENDEDSEPTEMBER 30, |            | Increase/(Decrease) |   | Increase/(Decrease) | 
|             |  | 2007                            |            | 2006                |   |                    
|             |  |                                 |            |                     |   | $                   |  | %          | 
|PBP products |  | $                               | 35,485,502 |                     | $ | 19,888,356          |  | 15,597,146 |  | 78 | %
|PBN products |  |                                 | 8,028,547  |                     |   | 7,186,703           |  | 841,844    |  | 12 | %
|             |  |                                 |            |                     |   |                     |  |            |  |    |  
|TOTAL        |  | $                               | 43,514,049 |                     | $ | 27,075,059          |  | 16,438,990 |  | 61 | %
|             |  |                                 |            |                     |   |                     |  |            |  |    |  

Sales of our PBP products increased by $15,597,146, or 78%, as compared to the same period during 2006 primarily
due to the following factors:



| |  | Guangxi Lingfeng Pharmaceutical Co. Ltd. (GLP) contributed $16,946,072 to our revenue for the three months ended September 30, 2007, which was an $11,760,056
increase compared to the same period last year. Revenue from GLPs Jinji series was approximately $13,470,450 and revenue from GLPs Yi Mu Cao was $3,351,295.
|- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



Page 23 of 39



---

##### Table of Contents

| |  | The combined sales of Shuanghuanglian Injection Powder and Cease Enuresis Soft Gel contributed $14,698,335 to our revenue for the third quarter of 2007, which was a
$3,810,864, or 35% increase as compared to the same period last year.
|- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

Sales from our PBN products increased to $8,028,547 in the third
quarter of 2007 from $7,186,703 in the same period during 2006, representing a growth of 12%. This increase was mainly attributed to the increase in sales of peptide tablets and peptide powder.

Cost of Goods Sold and Gross Profit

Cost of goods sold was
$12,833,252 for the three months ended September 30, 2007, compared to $9,373,245 for the three months ended September 30, 2006. Expressed as a percentage of revenues, cost of goods sold was 29% for the three months ended
September 30, 2007, compared to 35% for the three months ended September 30, 2006. The reduction in cost of goods sold as a percentage of revenues reflected a continued focus on operating cost management, sourcing efficiencies and
operation efficiencies. Cost of goods sold for the quarters ended September 30, 2007 and 2006 by product categories were as follows:



|             |  |                                 |            |                     |   |                     |  |           |  |    |  
|------------ |  | ------------------------------- | ---------- | ------------------- | - | ------------------- |  | --------- |  | -- | -
|             |  | THREE MONTHS ENDEDSEPTEMBER 30, |            | Increase/(Decrease) |   | Increase/(Decrease) | 
|             |  | 2007                            |            | 2006                |   |                    
|             |  |                                 |            |                     |   | $                   |  | %         | 
|PBP products |  | $                               | 9,827,120  |                     | $ | 6,745,980           |  | 3,081,140 |  | 46 | %
|PBN products |  |                                 | 3,006,132  |                     |   | 2,627,265           |  | 378,867   |  | 14 | %
|             |  |                                 |            |                     |   |                     |  |           |  |    |  
|TOTAL        |  | $                               | 12,833,252 |                     | $ | 9,373,245           |  | 3,460,007 |  | 37 | %
|             |  |                                 |            |                     |   |                     |  |           |  |    |  

The cost of goods sold of PBP and PBN products increased by 46% and 14%, respectively, in the three months ended
September 30, 2007 compared to the same quarter of 2006. These increases were attributed by our increase in sales.

Gross profit increased
$12,978,983, or 73%, to $30,680,797 for the three months ended September 30, 2007 compared to $17,701,814 for the three months ended September 30, 2006. This increase reflected higher net sales, improved margins and operating efficiencies
generally across our PBP businesses.

Gross profit as a percentage of net revenues increased from 65% in the comparable period of the prior year to 71% in
the third quarter of 2007 due to the reductions in cost of goods sold as a percentage of revenues discussed above, improved operational efficiency and increase in the sales of PBP products which have higher gross profit margins.

Selling and Marketing

Selling and marketing expenses, including
distribution expenses, increased from $2,230,490 in the three months ended September 30, 2006 to $5,644,776 in the same period of 2007, representing a 153% increase. The details of our selling and marketing expenses were as follows:



|                               |  |                                 |           |                      |   |           |  |           |   |  |        |   
|------------------------------ |  | ------------------------------- | --------- | -------------------- | - | --------- |  | --------- | - |  | ------ | --
|                               |  | THREE MONTHS ENDEDSEPTEMBER 30, |           | Increase/ (Decrease) |  
|                               |  | 2007                            |           | 2006                 |   | $         |  |           | % | 
|Payroll                        |  | $                               | 1,006,369 |                      | $ | 437,780   |  | 568,589   |   |  | 130    | % 
|Shipping                       |  |                                 | 1,027,291 |                      |   | 487,702   |  | 539,589   |   |  | 111    | % 
|Promotional materials and fees |  |                                 | 989,012   |                      |   | 708,788   |  | 280,224   |   |  | 40     | % 
|Sales conference               |  |                                 | 1,265,735 |                      |   | 5,856     |  | 1,259,879 |   |  | 21,514 | % 
|Offices supplies               |  |                                 | 90,805    |                      |   | 113,897   |  | (23,092   | ) |  | (20    | )%
|Trip and traveling             |  |                                 | 346,087   |                      |   | 90,963    |  | 255,124   |   |  | 280    | % 
|Business expense               |  |                                 | 689,530   |                      |   | 169,171   |  | 520,359   |   |  | 308    | % 
|Stores decoration expense      |  |                                 | 92,278    |                      |   |          |  | 92,278    |   |  | 100    | % 
|Other                          |  |                                 | 137,669   |                      |   | 216,333   |  | (78,664   | ) |  | (36    | )%
|                               |  |                                 |           |                      |   |           |  |           |   |  |        |   
|TOTAL                          |  | $                               | 5,644,776 |                      | $ | 2,230,490 |  | 3,414,286 |   |  | 153    | % 
|                               |  |                                 |           |                      |   |           |  |           |   |  |        |   



Page 24 of 39



---

##### Table of Contents

The increase in selling and marketing expenses in the quarter ended September 30, 2007 compared to the same quarter
during 2006 was primarily due to the following factors:



| |  | The increase in the payroll expenses was due to the increase in hiring of sales and marketing professionals in the first nine months of 2007 to support future
growth of our businesses.
|- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | Pharmacy and store decoration increased because of a new marketing initiative launched by the Company in 2007 to help establish and enforce relationships with
retailers by providing decorative posters and print ads for store windows. This initiative also serves as a promotional function.
|- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | The increase in sales conference, trip and traveling and business expense reflect increased spending in marketing communications to increase market awareness of our
brand and products. More sales conferences in more cities were held in the third quarter of 2007 compared to the same quarter of 2006.
|- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

Advertising

Advertising expenses increased by $3,326,948, from $3,607,212 in the third quarter of 2006 to $6,934,160 in the same quarter of
2007. The increase in advertising expenses resulted from an increase in promotional efforts to promote AOBOs brand, GLPs Jinji product series and GLPs Yi Mu Cao which was launched in early 2007.

General and Administrative

General and administrative expenses
increased from $2,223,335 in the third quarter of 2006 to $3,742,364 in the same quarter of 2007, or a 68% increase. The details of general and administrative expenses were as follows:



|                                         |  |                                 |           |      |                     |           |   |  |   |           |   |  |     |   
|---------------------------------------- |  | ------------------------------- | --------- | ---- | ------------------- | --------- | - |  | - | --------- | - |  | --- | --
|                                         |  | THREE MONTHS ENDEDSEPTEMBER 30, |           |      | Increase/(Decrease) |          
|                                         |  | 2007                            |           | 2006 |                     |           | $ |  |   | %         |  
|Payroll                                  |  | $                               | 528,590   |      | $                   | 384,440   |   |  | $ | 144,150   |   |  | 37  | % 
|Directors remuneration                  |  |                                 | 540,000   |      |                     | 143,417   |   |  |   | 396,583   |   |  | 277 | % 
|Stock compensation  directors           |  |                                 | 198,630   |      |                     | 34,352    |   |  |   | 164,278   |   |  | 478 | % 
|Stock compensation  consultants         |  |                                 | 65,000    |      |                     | 83,300    |   |  |   | (18,300   | ) |  | (22 | )%
|Office rental                            |  |                                 | 75,903    |      |                     | 94,180    |   |  |   | (18,277   | ) |  | (19 | )%
|Professional fees  accounting           |  |                                 | 35,914    |      |                     | 91,833    |   |  |   | (55,919   | ) |  | (61 | )%
|Professional fees  legal and consulting |  |                                 | 71,670    |      |                     | 246,284   |   |  |   | (174,614  | ) |  | (71 | )%
|Investors relation and listing expenses  |  |                                 | 57,307    |      |                     | 57,044    |   |  |   | 263       |   |  | 0   | % 
|Office supplies                          |  |                                 | 137,814   |      |                     | 124,484   |   |  |   | 13,330    |   |  | 11  | % 
|Vehicles & Utilities                     |  |                                 | 114,959   |      |                     | 86,043    |   |  |   | 28,916    |   |  | 34  | % 
|Research                                 |  |                                 | 200,998   |      |                     | 200,306   |   |  |   | 692       |   |  | 0   | % 
|Trip and traveling                       |  |                                 | 318,055   |      |                     | 103,043   |   |  |   | 215,012   |   |  | 209 | % 
|Business entertainment                   |  |                                 | 90,827    |      |                     | 94,106    |   |  |   | (3,279    | ) |  | (3  | )%
|Provision for bad debts                  |  |                                 | 22,739    |      |                     | (187,988  | ) |  |   | 210,727   |   |  | 112 | % 
|Staff welfare and insurance              |  |                                 | 211,322   |      |                     | 142,650   |   |  |   | 68,672    |   |  | 48  | % 
|Maintenance and repair fee               |  |                                 | 111,111   |      |                     | 113,991   |   |  |   | (2,880    | ) |  | (3  | )%
|Miscellaneous                            |  |                                 | 961,525   |      |                     | 411,850   |   |  |   | 549,675   |   |  | 133 | % 
|                                         |  |                                 |           |      |                     |           |   |  |   |           |   |  |     |   
|TOTAL                                    |  | $                               | 3,742,364 |      | $                   | 2,223,335 |   |  | $ | 1,519,029 |   |  | 68  | % 
|                                         |  |                                 |           |      |                     |           |   |  |   |           |   |  |     |   



Page 25 of 39



---

##### Table of Contents

The increase in general and administrative expenses in the three months ended September 30, 2007 compared to the
same period during 2006 was primarily due to the following factors:



| |  | Payroll expenses increased by $144,150, or 37% compared with the third quarter during 2006, as a result of hiring new employees.
|- |  | --------------------------------------------------------------------------------------------------------------------------------



| |  | Directors remuneration and stock compensation increased by $396,583 and $164,278, or 277% and 478% respectively, as compared to the same quarter during 2006.
This was a result of accrued performance bonus during the third quarter of 2007 and new stock options granted in April 2007.
|- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | Expenses for trip and traveling increased by $215,012, or 209% compared with the same quarter of 2006, as a result of increased overseas travel to attend corporate
and investor functions and increased local travel between operating facilities and the new corporate office.
|- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | We made general provisions for bad debts based on the age of its accounts receivable. A tight credit control policy and the consistent efforts in collecting long
outstanding debts inherited from acquired subsidiaries resulted in a better receivable turnover rate and a higher recovery of old debts. We provided $22,739 provision for bad debts during the quarter.
|- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | Other expenses increased by $549,675 during the third quarter of 2007 compared with the third quarter of 2006. This increase was due to increases in conference
fees, staff training, other miscellaneous, local taxes and consumable amortization expenses.
|- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

Depreciation and Amortization

Depreciation and amortization expenses increased by $89,786, or 31%, in the quarter ended September 30, 2007 compared to the same quarter during
2006. The increase was due to the integration of GLP with the net book value of $10,459,848 in fixed assets and $25,275,578 in intangible assets in May of 2006 as well as the integration of CCXA with the net book value of $9,228,006 in fixed assets
and $16,511,664 in intangible assets in September 2007.

Interest Income, Net

Net interest income was $360,365 for the three months ended September 30, 2007, compared to net interest income of $106,804 for the three months ended September 30, 2006. Increase in net interest income for
the third quarter of 2007 was the result of more interest income generated from the proceeds from the sale of common stock in June 2007 and our operations.

Other Income (expense), Net

Other expense was $12,191 for the three months ended September 30, 2007 compared to a net income of $6,379
for the three months ended September 30, 2006.



Page 26 of 39



---

##### Table of Contents

Income Taxes

Income
tax expense for the quarter ended September 30, 2007 was $2,386,189, compared to $1,915,266 for the quarter ended September 30, 2006. The Companys effective tax rate for this quarter was 17%.

RESULTS OF OPERATIONS  NINE MONTHS ENDED SEPTEMBER 30, 2007 AS COMPARED TO NINE MONTHS ENDED SEPTEMBER 30, 2006

The following table sets forth the amounts and the percentage relationship to revenues of certain items in our condensed consolidated statements of income for the nine
months ended September 30, 2007 and 2006:



|                              |  |                                |             |                                |   |            |  |     |      |  |     |  
|----------------------------- |  | ------------------------------ | ----------- | ------------------------------ | - | ---------- |  | --- | ---- |  | --- | -
|                              |  | NINE MONTHS ENDEDSEPTEMBER 30, |             | NINE MONTHS ENDEDSEPTEMBER 30, |  
|                              |  | 2007                           |             | 2006                           |   | 2007       |  |     | 2006 | 
|REVENUES                      |  | $                              | 103,062,573 |                                | $ | 69,238,089 |  | 100 | %    |  | 100 | %
|COST OF GOODS SOLD            |  |                                | 31,048,916  |                                |   | 24,292,034 |  | 30  |      |  | 35  |  
|                              |  |                                |             |                                |   |            |  |     |      |  |     |  
|GROSS PROFIT                  |  |                                | 72,013,657  |                                |   | 44,946,055 |  | 70  |      |  | 65  |  
|Selling and marketing         |  |                                | 12,210,509  |                                |   | 5,896,617  |  | 12  |      |  | 9   |  
|Advertising                   |  |                                | 16,150,754  |                                |   | 8,844,564  |  | 16  |      |  | 12  |  
|General and administrative    |  |                                | 9,234,426   |                                |   | 6,781,231  |  | 9   |      |  | 10  |  
|Depreciation and amortization |  |                                | 1,054,128   |                                |   | 654,890    |  | 1   |      |  | 1   |  
|                              |  |                                |             |                                |   |            |  |     |      |  |     |  
|Total operating expenses      |  |                                | 38,649,817  |                                |   | 22,177,302 |  | 38  |      |  | 32  |  
|INCOME FROM OPERATIONS        |  |                                | 33,363,840  |                                |   | 22,768,753 |  | 32  |      |  | 33  |  
|Interest income, net          |  |                                | 375,604     |                                |   | 550,057    |  | 1   |      |  | 1   |  
|Other income, net             |  |                                | 133,284     |                                |   | 15,540     |  | 0   |      |  | 0   |  
|                              |  |                                |             |                                |   |            |  |     |      |  |     |  
|INCOME BEFORE INCOME TAXES    |  |                                | 33,872,728  |                                |   | 23,334,350 |  | 33  |      |  | 34  |  
|Income taxes                  |  |                                | 5,846,543   |                                |   | 4,922,419  |  | 6   |      |  | 7   |  
|                              |  |                                |             |                                |   |            |  |     |      |  |     |  
|NET INCOME                    |  | $                              | 28,026,185  |                                | $ | 18,411,931 |  | 27  |      |  | 27  |  
|                              |  |                                |             |                                |   |            |  |     |      |  |     |  

Revenues

Revenues for the nine months ended September 30, 2007 were $103,062,573, increased by $33,824,484, as compared to the same period during 2006. Revenues by product categories were as follows:



|             |  |                                |             |                     |   |                     |  |            |  |    |  
|------------ |  | ------------------------------ | ----------- | ------------------- | - | ------------------- |  | ---------- |  | -- | -
|             |  | NINE MONTHS ENDEDSEPTEMBER 30, |             | Increase/(Decrease) |   | Increase/(Decrease) | 
|             |  | 2007                           |             | 2006                |   |                    
|             |  |                                |             |                     |   | $                   |  | %          | 
|PBP products |  | $                              | 79,948,350  |                     | $ | 48,200,312          |  | 31,748,038 |  | 66 | %
|PBN products |  |                                | 23,114,223  |                     |   | 21,037,777          |  | 2,076,446  |  | 10 | %
|             |  |                                |             |                     |   |                     |  |            |  |    |  
|TOTAL        |  | $                              | 103,062,573 |                     | $ | 69,238,089          |  | 33,824,484 |  | 49 | %
|             |  |                                |             |                     |   |                     |  |            |  |    |  



Page 27 of 39



---

##### Table of Contents

Sales of our PBP products increased by $31,748,038, or 66%, as compared to the same period during 2006 primarily due to
the following factors:



| |  | GLP contributed $34,669,121 to our revenue for the nine months ended September 30, 2007. Revenue from GLPs Jinji series was approximately $27,437,620 and
revenue from GLPs Yi Mu Cao was $6,873,671. GLP was not a subsidiary until April of 2006.
|- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | The combined sales of Shuanghuanglian Injection Powder and Cease Enuresis Soft Gel contributed $35,882,383 to our revenue for the nine months of 2007, which was a
$5,146,625, or 17% increase, as compared to the same period last year.
|- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

Sales from our PBN products increased to $23,114,223 in the nine
months ended September 30, 2007 from $21,037,777 in the same period during 2006, representing a growth of 10%. This increase was mainly attributed to the increase in sales of peptide coffee and peptide powder.

Cost of Goods Sold and Gross Profit

Cost of goods sold was
$31,048,916 for the nine months ended September 30, 2007, compared to $24,292,034 for the nine months ended September 30, 2006. Expressed as a percentage of revenues, cost of goods sold was 30% for the nine months ended September 30,
2007, compared to 35% for the nine months ended September 30, 2006. The reduction in cost of goods sold as a percentage of revenues reflected a continued focus on operating cost management, sourcing efficiencies and operation efficiencies. Cost
of goods sold for the nine months ended September 30, 2007 and 2006 by product categories were as follows:



|             |  |                                |            |                     |   |                     |  |           |  |    |  
|------------ |  | ------------------------------ | ---------- | ------------------- | - | ------------------- |  | --------- |  | -- | -
|             |  | NINE MONTHS ENDEDSEPTEMBER 30, |            | Increase/(Decrease) |   | Increase/(Decrease) | 
|             |  | 2007                           |            | 2006                |   |                    
|             |  |                                |            |                     |   | $                   |  | %         | 
|PBP products |  | $                              | 22,566,851 |                     | $ | 16,798,707          |  | 5,768,144 |  | 34 | %
|PBN products |  |                                | 8,482,065  |                     |   | 7,493,327           |  | 988,738   |  | 13 | %
|             |  |                                |            |                     |   |                     |  |           |  |    |  
|TOTAL        |  | $                              | 31,048,916 |                     | $ | 24,292,034          |  | 6,756,882 |  | 28 | %
|             |  |                                |            |                     |   |                     |  |           |  |    |  

The cost of goods sold of PBP and PBN products increased by 34% and 13%, respectively, in the nine months ended
September 30, 2007 compared to the same period of 2006. These increases were attributed by our increase in sales.

Gross profit increased $27,067,602,
or 60%, to $72,013,657 for the nine months ended September 30, 2007 compared to $44,946,055 for the nine months ended September 30, 2006. This increase reflected higher net sales, improved margins and operating efficiencies generally
across our PBP businesses.

Gross profit as a percentage of net revenues increased from 65% in the comparable period of the prior year to 70% due to the
reductions in cost of goods sold as a percentage of revenues discussed above, improved operational efficiency and increase in the sales of PBP products which have higher gross profit margins.



Page 28 of 39



---

##### Table of Contents

Selling and Marketing

Selling and marketing expenses, including distribution expenses, increased from $5,896,617 during the nine months ended September 30, 2006 to $12,210,509 in the same period of 2007, representing an increase of 107%. The details of our
selling and marketing expenses were as follows:



|                               |  |                                |            |                      |   |           |  |           |   |  |       |   
|------------------------------ |  | ------------------------------ | ---------- | -------------------- | - | --------- |  | --------- | - |  | ----- | --
|                               |  | NINE MONTHS ENDEDSEPTEMBER 30, |            | Increase/ (Decrease) |  
|                               |  | 2007                           |            | 2006                 |   | $         |  |           | % | 
|Payroll                        |  | $                              | 2,627,510  |                      | $ | 1,011,823 |  | 1,615,687 |   |  | 160   | % 
|Shipping                       |  |                                | 1,990,599  |                      |   | 1,397,918 |  | 592,681   |   |  | 42    | % 
|Promotional materials and fees |  |                                | 2,001,241  |                      |   | 1,636,561 |  | 364,680   |   |  | 22    | % 
|Sales conference               |  |                                | 1,844,311  |                      |   | 147,619   |  | 1,696,692 |   |  | 1,149 | % 
|Offices supplies               |  |                                | 394,088    |                      |   | 304,469   |  | 89,619    |   |  | 29    | % 
|Trip and traveling             |  |                                | 1,115,865  |                      |   | 206,402   |  | 909,463   |   |  | 441   | % 
|Business expense               |  |                                | 1,430,030  |                      |   | 734,569   |  | 695,461   |   |  | 95    | % 
|Store decoration expense       |  |                                | 504,302    |                      |   |          |  | 504,302   |   |  | 100   | % 
|Other                          |  |                                | 302,563    |                      |   | 457,256   |  | (154,693  | ) |  | (34   | %)
|                               |  |                                |            |                      |   |           |  |           |   |  |       |   
|TOTAL                          |  | $                              | 12,210,509 |                      | $ | 5,896,617 |  | 6,313,892 |   |  | 107   | % 
|                               |  |                                |            |                      |   |           |  |           |   |  |       |   

The increase in selling and marketing expenses in the nine months ended September 30, 2007 compared to the
same period during 2006 was primarily due to the following factors:



| |  | The increase in the payroll expenses was due to the increase in hiring of sales and marketing professionals in the first nine months of 2007 to support future
growth of our businesses.
|- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | Pharmacy and store decoration increased because of this new marketing initiative launched by the Company in 2007 to help establish and enforce relationships with
retailers by providing decorative posters and print advertisements for store windows. This initiative also serves as a promotional function.
|- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | The increase in sales conference, trip and traveling and business expense reflects increased spending in marketing communications to increase market awareness of
our brand and products. More sales conferences in more cities were held in the first nine months of 2007 compared to the same period of 2006.
|- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

Advertising

Advertising expenses increased by $7,306,190, from $8,844,564 in the nine months ended September 30, 2006 to $16,150,754
in the same period during 2007. The increase in advertising expenses resulted from an increase in promotional efforts to promote AOBOs brand, GLPs Jinji product series and GLPs Yi Mu Cao. GLP incurred $8,630,713 in advertising
expenses during the nine months of 2007. GLP was not a subsidiary until April of 2006.



Page 29 of 39



---

##### Table of Contents

General and Administrative

General and administrative expenses increased from $6,781,231 in the first nine months of 2006 to $9,234,426 in the same period of 2007, or a 36% increase. The details of general and administrative expenses were as follows:



|                                         |  |                                |           |      |                      |           |   |  |           |   |  |      |   
|---------------------------------------- |  | ------------------------------ | --------- | ---- | -------------------- | --------- | - |  | --------- | - |  | ---- | --
|                                         |  | NINE MONTHS ENDEDSEPTEMBER 30, |           |      | Increase/ (Decrease) |          
|                                         |  | 2007                           |           | 2006 |                      |           | $ |  |           | % | 
|Payroll                                  |  | $                              | 1,489,525 |      | $                    | 1,005,561 |   |  | 483,964   |   |  | 48   | % 
|Directors remuneration                  |  |                                | 832,333   |      |                      | 371,917   |   |  | 460,416   |   |  | 124  | % 
|Stock compensation  directors           |  |                                | 372,804   |      |                      | 192,752   |   |  | 180,052   |   |  | 93   | % 
|Stock compensation  consultants         |  |                                | 329,100   |      |                      | 573,820   |   |  | (244,720  | ) |  | (43  | %)
|Office rental                            |  |                                | 257,046   |      |                      | 284,598   |   |  | (27,552   | ) |  | (10  | %)
|Professional fees  accounting           |  |                                | 596,336   |      |                      | 448,243   |   |  | 148,093   |   |  | 33   | % 
|Professional fees  legal and consulting |  |                                | 306,503   |      |                      | 564,937   |   |  | (258,434  | ) |  | (46  | %)
|Investors relation and listing expenses  |  |                                | 254,626   |      |                      | 168,080   |   |  | 86,546    |   |  | 51   | % 
|Office supplies                          |  |                                | 483,115   |      |                      | 451,885   |   |  | 31,230    |   |  | 7    | % 
|Vehicles & Utilities                     |  |                                | 301,544   |      |                      | 242,595   |   |  | 58,949    |   |  | 24   | % 
|Research                                 |  |                                | 581,862   |      |                      | 572,062   |   |  | 9,800     |   |  | 2    | % 
|Trip and traveling                       |  |                                | 805,623   |      |                      | 247,881   |   |  | 557,742   |   |  | 225  | % 
|Business entertainment                   |  |                                | 174,932   |      |                      | 296,294   |   |  | (121,362  | ) |  | (41  | %)
|Provision for bad debts                  |  |                                | 27,240    |      |                      | (264,928  | ) |  | 292,168   |   |  | (110 | %)
|Staff welfare and insurance              |  |                                | 500,193   |      |                      | 389,323   |   |  | 110,870   |   |  | 28   | % 
|Maintenance and repair fee               |  |                                | 215,607   |      |                      | 210,640   |   |  | 4,967     |   |  | 2    | % 
|Miscellaneous                            |  |                                | 1,706,037 |      |                      | 1,025,571 |   |  | 680,466   |   |  | 66   | % 
|                                         |  |                                |           |      |                      |           |   |  |           |   |  |      |   
|TOTAL                                    |  | $                              | 9,234,426 |      | $                    | 6,781,231 |   |  | 2,453,195 |   |  | 36   | % 
|                                         |  |                                |           |      |                      |           |   |  |           |   |  |      |   

The increase in general and administrative expenses in the nine months ended September 30, 2007 compared to
the same period during 2006 was primarily due to the following factors:



| |  | Payroll expenses increased by $483,964, or 48% compared with the first nine months during 2006, as a result of hiring new employees.
|- |  | ------------------------------------------------------------------------------------------------------------------------------------



| |  | Directors remuneration and stock compensation increased by $460,416 and $180,052, or 124% and 93% respectively, as compared to the same period during 2006.
This was a result of accrued performance bonus during the third quarter of 2007 and new stock options granted in April 2007.
|- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | Professional fees related to accounting increased by $148,093, or 33% during the first nine months of 2007 as compared to the same period of 2006 due to an increase
in our audit fees as this was the first year our auditors performed additional procedures to support their opinion for year ended December 31, 2006 on the effectiveness of the companys internal control over financial reporting.
|- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | Expenses for trip and traveling increased by $557,742, or 225% compared with the same period of 2006, as a result of increased overseas travel to attend corporate
and investor functions and increased local travel between operating facilities and new corporate office.
|- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | We made general provisions for bad debts based on the age of its accounts receivable. A tight credit control policy and the consistent efforts in collecting long
outstanding debts inherited from acquired subsidiaries resulted in a better receivable turnover rate and a higher recovery of old debts. We provided $27,240 provision for bad debts during the first nine months of 2007.
|- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | Other expenses increased by $680,466 during the first nine months of 2007 compared with the same period of 2006. This increase was due to increases in conference
fees, staff training, other miscellaneous, local taxes and consumable amortization expenses.
|- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

Depreciation and Amortization

Depreciation and amortization expenses increased by $399,238 to $1,054,128 during the first nine months of 2007. The increase was mainly due to the
integration of GLP with the net book value of $10,459,848 in fixed assets and $25,275,578 in intangible assets as well as the integration of CCXA with the net book value of $9,228,006 in fixed assets and $16,511,664 in intangible assets. The
depreciation and amortization expenses at GLP amounted to $506,917 for the first nine months of 2007. GLP was not a subsidiary until April of 2006.



Page 30 of 39



---

##### Table of Contents

Interest Income, Net

Net interest income was $375,604 for the nine months ended September 30, 2007, compared to net interest income of $550,057 for the nine months ended September 30, 2006. Decrease in net interest income for first nine months of 2007
was because the interest income was offset by interest expense incurred by GLP, which was not a subsidiary until April of last year.

Other Income
(expense), Net

Other income was $133,284 for the nine months ended September 30, 2007 compared to a net income of $15,540 for the nine months
ended September 30, 2006.

Income Taxes

Income
tax expense for the nine months ended September 30, 2007 was $5,846,543, compared to $4,922,419 for the nine months ended September 30, 2006. The Companys effective tax rate during the nine months ended September 30, 2007 was
17%.



Page 31 of 39



---

##### Table of Contents

LIQUIDITY AND CAPITAL RESOURCES

Cash

Our cash balance at September 30, 2007, was $170,624,005, representing an increase of $82,839,586 or 94%,
compared with our cash balance of $87,784,419 at December 31, 2006. The increase was mainly attributable to net cash provided by operating activities and the receipt of proceeds from the underwriting agreement.

We plan to use our cash for acquisitions, research and development activities, sales and marketing of our products, and other general corporate purposes.

For the purpose of future acquisitions, it is very important to have cash in local currency in a China bank to demonstrate our financial strength and capability to
acquire potential companies in cash with funds that are available immediately. Because of the anticipated appreciation of Renminbi, interest rates in China are lower than other foreign currencies and the newly increased interest rate for savings
accounts is at 0.81% per annum. We manage our cash based on thorough consideration of our corporate strategy as well as the macro economic situation. Factors we take into account when managing our cash include interest income, foreign currency
fluctuation as well as the flexibility in executing our acquisition strategy.

Cash Flow

Cash flows from operations during the nine months ended September 30, 2007 amounted to $26,989,761, representing an increase of approximately 78% compared with cash
flows from operations of $ 15,144,342 in the same period of 2006. The increased cash flow was due primarily to the increase in our net income by 52%, to $28,026,185 in the first nine months of 2007, compared with net income of $18,411,931 in the
same period last year. The increased cash flow was also due in part to a decrease in notes receivable by $1,014,478 and increase in accounts payable of $2,162,213 during the nine months ended September 30, 2007, due to our better control over
payment to our vendors. These increases were partly offset by an increase in our accounts receivable of $3,913,584 and our inventories of $4,675,990 to support increased production activities. The increased cash flow was also offset by a decrease in
customer deposits of $869,835 and accrued payroll and welfare of $868,625, which resulted from the payment of accrued bonus.

Our cash flows used in
investing activities amounted to $23,219,046 in the nine months ended September 30, 2007. During that period, we paid $16,817,410 for the acquisition of CCXA and a deposit of $4,420,770 for the acquisition of BOKE. We also paid $1,352,252 for
purchases of plant and equipment and spent $628,614 on construction in progress.

Our cash flows from financing activities amounted to $75,674,109 in the
nine months ended September 30, 2007. During that period, we repaid $9,945,084 bank loans and received $74,107,250 from the underwriting agreement and $6,251,394 proceeds from exercise of warrants.

Working Capital

Our working capital increased by $83,178,234 to
$175,430,305 at September 30, 2007 as compared to $92,252,071 at December 31, 2006, primarily due to our increase in cash of $82,839,586, accounts receivable of $4,192,835, inventories of $4,665,281, advances to suppliers of $630,810,
deposit for acquisition of $4,420,770 and partly offset by a decrease of $1,014,478 in notes receivable and an increase of $2,894,015 in other payable as well as the $11,681,980 payable for acquisition. The increase in inventory was due to our
maintaining higher inventory levels to prepare for increased operating activities. The decrease in notes receivable was the result of better credit control.



Page 32 of 39



---

##### Table of Contents

We currently generate our cash flow through operations. We believe that our cash flow generated from operations will be
sufficient to sustain operations for at least the next twelve months. There is no identifiable expansion plan as of September 30, 2007, but from time to time, we may identify new expansion opportunities for which there will be a need to use
cash.

ISSUANCE OF COMMON STOCK

See Note 12A.

INFLATION

Inflation has not had a material impact on
our business and we do not expect inflation to have an impact on our business in the near future.

CURRENCY EXCHANGE FLUCTUATIONS

All of the Companys revenues and a majority of its expenses in the nine months ended September 30, 2007 were denominated in Renminbi (RMB), the
currency of China, and were converted into US dollars at the exchange rate of 7.7211 to 1. In the third quarter of 2005, the Renminbi began to rise against the US dollar. As a result of the appreciation of the RMB, we recognized a foreign currency
translation gain of $5,746,252 during the nine months ended September 30, 2007. There can be no assurance that RMB-to-U.S. dollar exchange rates will remain stable. A devaluation of RMB relative to the U.S. dollar would adversely affect our
business, consolidated financial condition and results of operations. We do not engage in currency hedging.

ITEM 3  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

We do not hold any derivative instruments and do
not engage in any hedging activities. Because most of our purchases and sales are made in RMB, any exchange rate change affecting the value of the RMB relative to the U.S. dollar could have an effect on our financial results as reported in U.S.
dollars. If the RMB were to depreciate against the U.S. dollar, amounts reported in U.S. dollars would be correspondingly reduced. If the RMB were to appreciate against the U.S. dollar, amounts reported in U.S. dollars would be correspondingly
increased.

ITEM 4  CONTROLS AND PROCEDURES

As of the end of the period covered by this report (the Evaluation
Date), we carried out an evaluation in accordance with the requirements of Chinese auditing standards and applicable U.S. rules. The Company has an internal audit committee, which consists of the Chief Executive Officer, Chief Financial
Officer, one member of the board of directors and two executives (including the manager) from our internal audit department. The internal audit group evaluated the effectiveness of the design and operation of our disclosure controls and procedures,
as defined in Rule 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the Exchange Act), with respect to this Quarterly Report on Form 10-Q before its filing with the Commission. The audit group made its
evaluation pursuant to Rule 13a-15 under the Exchange Act to the maximum possible extent and to the best knowledge of the internal audit group.

Based upon
our evaluation, our Chief Executive Officer and our Chief Financial Officer concluded that, as of the Evaluation Date, our disclosure controls and procedures were effective and basically sound in all material aspects under Rule 13a-15. However,
given the fact that our major operations are located China, the Company and the internal audit group consistently make efforts to coordinate the evolving control and disclosure environment in China with the regulatory environment in the United
States. The Company has identified this aspect as an area for improvement and is taking measures to train its staff for better performance.



Page 33 of 39



---

##### Table of Contents

There were no changes in the Companys internal control over financial reporting during the third quarter of 2007
that have materially affected, or are reasonably likely to materially affect the Companys internal control over financial reporting.

PART II  OTHER INFORMATION

ITEM 1  LEGAL PROCEEDINGS

We are currently not involved in any litigation that we believe could have a material
adverse effect on our financial condition or results of operations. There is no action, suit, proceeding, inquiry or investigation before or by any court, public board, government agency, self-regulatory organization or body pending or, to the
knowledge of our executive officers or any of our subsidiaries, threatened against or affecting our company, our common stock, or any of our subsidiaries, or against our Companys or our Companys subsidiaries officers or directors
in their capacities as such, in which an adverse decision could have a material adverse effect.

ITEM 1A  RISK FACTORS

In our Quarterly Report on Form 10Q for the quarter ended June 30, 2007, we disclosed new
risks and material changes from risk factors set forth in our Annual Report on Form 10-K for the year ended December 31, 2006. There have been no material changes or new risks during the quarter ended September 30, 2007 to be disclosed. We
hereby incorporate by reference the risk factors set forth in Item 1A of the Quarterly Report on Form 10-Q for the quarter ended June 30, 2007.

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

There have been no unregistered sales of equity
securities during the period covered by this report.

ITEM 3  DEFAULTS UPON SENIOR SECURITIES

There have been no material defaults.

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

There were no matters submitted to a vote of security
holders during the period covered by this report.

ITEM 5  OTHER INFORMATION

Not applicable.



Page 34 of 39



---

##### Table of Contents

ITEM 6  EXHIBITS

The following exhibits are filed as part of this Quarterly Report on Form 10-Q:



|            |  |                                                                                                                                                                                                                                                   
|----------- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit No. |  | Description                                                                                                                                                                                                                                       
|2.1         |  | Acquisition Agreement, dated September 6, 2007, by and between American Oriental Bioengineering, Inc. and Renson Holdings Limited for the purchase of all of the outstanding capital stock of
Changchun Xinan Pharmaceutical Group Company Limited
|            | 
|2.2         |  | Acquisition Agreement, dated October 18, 2007, by and between American Oriental Bioengineering, Inc. and Bonson Investment Holdings Limited for the purchase of all of the outstanding capital
stock of Guangxi Boke Pharmaceutical Limited       
|            | 
|31.1        |  | Certification of Chief Executive Officer (Principal Executive Officer) pursuant to Rule 13a  14(a) of the Securities Exchange Act, as amended                                                                                                    
|            | 
|31.2        |  | Certification of Acting Chief Financial Officer (Principal Financial Officer) pursuant to Rule 13a  14(a) of the Securities Exchange Act, as amended                                                                                             
|            | 
|32.1        |  | Certification of Chief Executive Officer (Principal Executive Officer) and Acting Chief Financial Officer (Principal Financial Officer) pursuant to 18 U.S.C. 1350, as adopted.                                                                   



Page 35 of 39



---

##### Table of Contents

SIGNATURES

In accordance with the requirements 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.



|                                      
|--------------------------------------
|AMERICAN ORIENTAL BIOENGINEERING, INC.
|                                      
|/s/ Tony Liu                          
|TONY LIU                              
|CHAIRMAN AND CHIEF EXECUTIVE OFFICER  
|DATED: November 05, 2007              
|                                      
|/s/ Yanchun Li                        
|YANCHUN LI                            
|CHIEF FINANCIAL OFFICER               
|DATED: November 05, 2007              



Page 36 of 39