UNITED
STATES
 SECURITIES
AND EXCHANGE COMMISSION
 WASHINGTON,
D.C. 20549
 
 Amendment
No. 1 to
 Form
10-K
 
 (Mark
One)
 
 x
              ANNUAL  REPORT  UNDER  SECTION
      13 OR 15(d) OF THE  SECURITIES  EXCHANGE ACT OF
      1934
 
 For the
fiscal year ended December 31, 2008.
 
  ̈
              TRANSITION REPORT UNDER SECTION
      13 OR 15(d) OF THE SECURITIES  EXCHANGE ACT OF
      1934
 
 For the
transition period from _______________ to ______________
  Kun
Run Biotechnology, Inc.
 (Exact
name of registrant as specified in Charter)
 
 Nevada
                
                333-141384
                
                98-0517550(State
      or other jurisdiction of
                  incorporation
      or organization)
                
                (Commission
      File No.)
                
                (IRS
      Employee Identification
                  No.)
  Free
Trade Zone
 168
Nanhai Avenue, Haikou City
 Hainan
Province, China 570216
 (Address
of Principal Executive Offices)
  86-898-6680-2207
 (Issuer
Telephone number)
 
 Securities
registered under Section 12(b) of the Exchange Act: None.
 
 Securities  registered  under  Section  12(g)
of the Exchange  Act: None.
 
 Indicate
by check mark if the registrant is a well-known seasoned issuer, as defined in
Rule 405 of the Securities Act.
 Yes oNo þ
 
 Indicate
by check mark if the registrant is not required to file reports pursuant to
Section 13 or Section 15(d) of the Act.  Yes þNo
o
  Indicate
by check mark whether the registrant (1) has filed all reports required to
be filed by Sections 13 or 15(d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. Yes o No þ
  Indicate
by check mark if disclosure of delinquent filers pursuant to Item 405 of
Regulation S-K is not contained herein, and will not be contained, to the
best of registrant’s knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any
amendment to this
Form 10-K.                    o
 
 Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting company. See
the definitions of “large accelerated filer,” “accelerated filer” and “smaller
reporting company” in Rule 12b-2 of the Exchange Act.
  Large accelerated filer  ̈
                Accelerated filer  ̈
                Non-accelerated filer  ̈
                  (Do not check if a smaller
                  reporting company)
                Smaller reporting
                  company þ
  Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Act):
 Yes oNo þ
  
 
 The
aggregate market value of the 2,477,500 shares of voting and non-voting common
equity stock held by non-affiliates of the registrant was $ 2,502,275 as of June
30, 2008, the last business day of the registrant’s most recently completed
second fiscal quarter, based on the last sale price of the registrant’s common
stock on such date of $1.01 per share, as reported by The Over-The-Counter
Bulletin Board.
 
 As
of March 30, 2009, there were 25,000,000 shares of common stock of Kun Run
Biotechnology, Inc. outstanding.
 
 EXPLANATORY
NOTE
 This
amendment no. 1 to our Annual Report on Form 10-K for the fiscal year ended
December 31, 2008, initially filed with the Securities and Exchange Commission
on March 31, 2009, is being filed to correct typographical errors in liabilities
and stockholders’ equity table, that in Management Discussion and Analysis
section and that in note 13 to financial statement.
 
 TABLE
OF CONTENTS
  PagePART
      IItem
      1
                                                                  Business
                                                                  2Item
      1A
                                                                  Risk
      Factors
                                                                  11Item
      1B
                                                                  Unresolved
      Staff Comments
                                                                  24Item
      2
                                                                  Properties
                                                                  24Item
      3
                                                                  Legal
      Proceedings
                                                                  24Item
      4
                                                                  Submission
      of Matters to a Vote of Security Holders
                                                                  24PART
      IIItem
      5
                                                                  Market
      for Registrant’s Common Equity, Related Stockholder Matters and Issuer
      Purchases of Equity Securities
                                                                  25Item
      6
                                                                  Selected
      Financial Data
                                                                  25Item
      7
                                                                  Management’s
      Discussion and Analysis of Financial Condition and Results of
      Operation
                                                                  26Item
      7A
                                                                  Quantitative
      and Qualitative Disclosures About Market Risk
                                                                  38Item
      8
                                                                  Financial
      Statements and Supplementary Data
                                                                  38Item
      9
                                                                  Changes
      in and Disagreements With Accountants on Accounting and Financial
      Disclosure
                                                                  38Item
      9A
                                                                  Controls
      and Procedures
                                                                  38Item
      9B
                                                                  Other
      Information
                                                                  39PART
      IIIItem
      10
                                                                  Directors,
      Executive Officers and Corporate Governance
                                                                  39Item
      11
                                                                  Executive
      Compensation
                                                                  40Item
      12
                                                                  Security
      Ownership of Certain Beneficial Owners and Management and Related
      Stockholder Matters
                                                                  41Item
      13
                                                                  Certain
      Relationships and Related Transactions, and Director
      Independence
                                                                  42Item
      14
                                                                  Principal
      Accounting Fees and Services
                                                                  42PART
      IVItem
      15
                                                                  Exhibits
      and Financial Statement Schedules
                                                                  43
  Except as
otherwise indicated by the context, references in this document to “Company,”
“we,” “us,” or “our” are references to the combined business of Kun Run
Biotechnology, Inc. (formerly, Aspen Racing Stables, Inc.) and its wholly-owned
subsidiaries, including Kun Run Biotechnology Ltd., a Hong Kong corporation and
Hainan Zhonghe Pharmaceutical Co., Ltd., a corporation organized under the laws
of the People’s Republic of China. References to “China” and “PRC” are
references to “People’s Republic of China.” References to "RMB" are to Renminbi,
the legal currency of China, and all references to “$” are to the legal currency
of the United States.
  PART
I
  Item
1. Business
  We are
engaged, through Hainan Zhonghe Pharmaceutical Co., Ltd. (“Zhonghe”), our China
based indirect subsidiary, in the development, manufacture, marketing and sale
of prescription polypeptide drugs. Our principal products are polypeptide
derivatives. Our products are sold primarily in China and through Chinese
domestic pharmaceutical distributors licensed by the Chinese government. Our
manufacturing and sales facilities are located in the City of Haikou, Hainan
Province.
  Corporate
History
  Kun Run
Biotechnology, Inc. (the “Company”) formerly known as Aspen Racing Stables, Inc.
(“Aspen”) was incorporated in the State of Nevada on March 10, 2006. The
Company’s shares are quoted for trading on the Over-The-Counter Bulletin Board
in the United States of America.
  2
  Kun Run
Biotechnology, Ltd., our non-operating Hong Kong holding subsidiary (“Kun Run”),
was incorporated on May 6, 2006 under the name Max Talent Industrial Ltd, which
changed to its present name on February 25, 2008. On March 24, 2008, Kun Run
completed its acquisition of 60.12% equity interest of Zhonghe, a company
organized under the laws of the People’s Republic of China (“PRC”) on April 17,
1995 and has since been engaged in the manufacture and sale of polypeptide
drugs. On May 27, 2008, Kun Run acquired an additional 39% equity interest of
Zhonghe, resulting in a 99.12% ownership of Zhonghe.
  Thereafter,
on August 21, 2008, Kun Run entered into a Stock Purchase Agreement (the
“Exchange Agreement”) with the shareholders of the Company. The terms of the
Exchange Agreement were consummated and the acquisition was completed on
September 16, 2008. As a result of the transaction, the Company issued a total
of 24,250,000 shares of its common voting stock to Xueyun Cui (“Mr. Cui”) and
Liqiong Yang, the shareholders of Kun Run and their designees, in exchange for
100% of the capital stock of Kun Run resulting in Kun Run becoming our
wholly-owned subsidiary, and the shareholders of Kun Run and their designees
owning approximately 97% of the issued and outstanding shares of the common
stock of Aspen. In addition, Trixy Asyniux-Walt, the original shareholder of
Aspen, returned 1,000,000 of her shares to the Company for cancellation and as
of the closing owns 750,000 shares of the Company’s common stock which
constitutes approximately 3% of the issued and outstanding shares of the
Company’s common stock.  1,000,000 of the shares issued to Mr. Xueyun
Cui were put into an escrow pursuant to a Make Good Escrow Agreement entered
between Mr. Cui and the escrow agent on September 16, 2008.
  Organizational
Chart
  
  Our
Industry
  So far,
three types of molecules have been developed for the treatment of human
diseases: i) small molecules, ii) antibodies, and iii) peptides. Until recently,
the majority of the therapeutic molecules developed and marketed are small
molecules. However, with the recent development of several technologies in the
areas of peptide synthesis, screening, stabilization and modifications, peptides
are now recognized as leading molecules for therapeutics. Peptides play an
increasing role in the development of new treatments for cancer, diabetes,
auto-immune diseases, and more effective diagnostics due to its function as
chemical messengers and neurotransmitters. In the development of anti-cancer
drugs, peptides present the least side-effects. Unlike the present cocktail of
drugs used in chemotherapy, we believe that peptides provide the best prospects
because they can be target-specific and have the least lethal index (side
effects) and maximum therapeutic index (effectiveness of the drug).
  Peptides
are short strings of amino acids. Bioactive peptides, also called small
molecular weight active polypeptides, are peptides that are more active, and
bind more quickly, than regular peptides. Bioactive peptides have better
absorption and binding mechanisms than free amino acids.
  A growing
area of biotechnology research is the discovery and development of new bioactive
peptides that can be used in medicine, health supplements, food and cosmetics.
Bioactive peptides can be divided into two groups: (i) therapeutic peptide
products, of which there are over 100 on the global market, and (ii)
peptides enhanced through the addition of bioactive peptides such as health
supplements and peptide-rich non-prescription medicines.
  Their
role as mediators of key biological functions and their unique intrinsic
properties make them particularly attractive therapeutic agents.  Peptides
show high biological activity associated with low toxicity and high specificity.
The benefits conferred by these characteristics include little unspecific
binding to molecular structures other than the desired target, minimization of
drug-drug interactions and less accumulation in tissues thus reducing risks of
complications due to intermediate metabolites. Additionally, compared to small
molecules, peptides offer valuable chemical and biological diversity on which
intellectual property is still widely available. As a result, even large
pharmaceutical companies, which traditionally focused on small molecules, are
increasingly including peptides in their pipelines. For example, Pfizer, GSK and
Eli Lilly have recently acquired peptide-based products.
  3
  The
therapeutic peptides market emerged in the 1970s, when Novartis launched
Lypressin, a vasopressin analogue. Since then, based on a report by Bionest
Partner in 2005 entitled “Therapeutic Peptides under the Spotlight,”
approximately 30 peptides have reached the market, representing a $5.3 billion
opportunity in 2003 (over 1.5 percent of the $325 billion global
pharmaceutical market). Among the different classes of peptides, GNRH/LHRH
agonists (leuprorelin, goserelin) account for almost 50 percent of the
market.  Other key commercialized peptides include sandostatin
(somatostatin analogue, Novartis), glatiramer (immunomodulator peptide, Teva),
salmon calcitonin (Miacalcin, Novartis) and desmopressin (DDAVP,
Ferring).
  The
worldwide market for therapeutic peptides was estimated to be $5.3 billion in
2003, and is expected to grow at a Compound Annual Growth Rate of 8.1% to $11.5
billion in 2013.
  China’s
Peptide Market
  China
possesses one fourth of the world’s population and has a rapidly growing
pharmaceuticals industry. In 2006, based on “China is Expected to Become the
Fifth Largest Drug Market in the World by 2010,” a report by Research and
Markets (http://www.researchandmarkets.com/reports), dated  March 8, 2007,
sales in the Chinese pharmaceuticals industry reached $12 billion, an increase
of 3.8 times the sales in 1998. The Chinese pharmaceuticals market is expected
to grow at a rate of 20 to 25 percent per year for the next five years. China is
forecasted to become the fifth largest drug market in the world by
2010.
  A number
of factors contribute to an increasing demand for pharmaceuticals in
China:
  ·
              Overall economic growth has led
      to increased household income. Based on a report by Nankai University
      dated April 3, 2007 entitled “Welfare effects of public health insurance
      reform,” health awareness is increasing in a rapidly growing urban
      population.
  ·
              China’s current population is
      aging and people who are 60 years of age or older will reach 9.0% of the
      country’s population by 2010, up from 7.0% in 2003. Based on a report by
      the China Social Protection Budget Committee entitled “China: Social
      Pension System in China is Facing Harsh Challenges” dated April 21, 2005,
      the Social Insurance Fund of China predicts that the aging population
      (people older than 60) will reach 24.5% of China’s population in
      2030.
  ·
              Provincial and national health
      insurance program expansion and reform are making healthcare services
      available to more people, based on the Nankai University
      report.
  The
government has undertaken initiatives to regulate the domestic pharmaceuticals
industry to assure product quality and protect intellectual property rights.
These factors have led to increased direct foreign investment and rapid growth
in the industry.
  The
Chinese therapeutic peptide market is growing rapidly. Research is focused on
developing new, more effective drugs that utilize bioactive peptides as active
pharmaceutical ingredients (APIs). Peptide medicines are used to cure diseases
and to strengthen the human immune system. The commercialization of research
findings is leading to rapid growth in this sector of the pharmaceutical
industry.
  There are
only 26 therapeutic polypeptide medicines sold in China.  The
therapeutic peptides industry in China is highly fragmented and dominated mainly
by domestic players. Only 11 foreign peptide products have obtained approvals
from the Chinese government to be sold across China, which only accounts for a
small part of the total market due to these foreign products’ weak market
penetration and high prices.
  Competitive
Advantages
  We
believe that we have the following competitive advantages:
  1.
 Focus on peptide products.  Unlike other peptide manufacturers in
China, we focus on peptide drugs and seldom manufacture any other types of
drugs.  Although we plan to manufacture certain generic drugs in the
future, the scope will be limited and used only as a temporary measure to
utilize our current surplus capacity.
  2.
 First Mover.  We started to manufacture peptide drugs in 1997,
earlier than other peptide manufacturers in China, and we believe that we have
built more experience in manufacturing and marketing peptide drugs than any
other peptide manufacturer in China. In addition, we are the largest
manufacturer of TP-5 in China in terms of both volume and revenue. Based on a
survey conducted by Haihong Pharmaceutical Information Ltd. on 1410 hospitals
throughout China, we currently have a 65.5% market share of TP-5 in Beijing,
95.6% in Shanghai and 43.6% in Guangzhou.
  3.
 Broader Line of Products. Compared to most peptide manufacturers in China,
we offer more peptide products.  Currently, we manufacture and market four
peptide drugs while most others only manufacture and market one or two peptide
products.
  4
  
 4.
 More Products in the Pipeline.  We currently have at least a dozen
potential peptide drugs at various stages of development and expect to launch
several of them in the next two to three years.
  5. Better
Product Quality.  Our peptide products have at least 99% purity compared to
95% purity of similar products of most other peptide manufacturers in China.
Higher purity leads to higher potency and lower side effects, the clinical value
sought by patients. Therefore, our products have a better name recognition
and can command higher prices.
  6.
State-of-the-art Production Facility. Our production facility possesses a large
and efficient designed capacity to achieve economies of scale. It is one of the
largest bulk synthesized peptide manufacturing facilities in Asia and the
largest in China.
  Our
Strategies
  We plan
to adopt the following strategies:
  1.
 Strengthen Research and Development.  We plan to strengthen and
expand our R&D capabilities to maintain our competitive advantages.  In
order to achieve this objective, we plan to acquire the R&D facilities of
our affiliates if we are able to successfully raise sufficient funds in our
future financings. In addition, we will continue to strengthen our relationships
with universities and medical institutions in order to acquire new products, new
applications and new delivery mechanisms for peptides.
  2.
 Increase Revenue by Broadening Our Line of Products.  Currently, we
manufacture four peptide products. To increase our revenue, we plan to add one
or two new peptide products per year for the next two to three years.  We
plan to manufacture generic drugs or OEM manufacture for other pharmaceutical
companies at least for the short term due to extra capacity we have at our new
manufacturing facility: our phase II pharmaceutical plant, Injection Preparation
Plant obtained GMP approval on September 29, 2008 and went into production in
October of the same year. The Solid Oral Preparation Plant has been installed
and debugged, expecting to get GMP approval in April of 2009.
  3.
 Further Penetration of Market.  Currently, we have distribution
agents in every province and municipality directly under the jurisdiction of
China’s State Council. In order to increase revenue, we plan to further
penetrate the market by expanding our distribution networks into China’s
secondary cities.  In addition, we are testing a pilot program which awards
a distributor’s nationwide distributorship for certain
products  rather than awards for distributorship within the geographic
area of a province only.   We believe distributors may have more
incentive to increase the sales of certain peptide products through this new
system.
  4.
 Expand into Overseas Market.   In order to increase our revenue
growth, we plan to enter into markets in Southeast Asia, Africa and South
America.  In addition, we have obtained a permit in Uzbekistan and are in
the process of applying for one in Korea.  Our international department has
begun to receive orders from South Korea and is negotiating with distributors in
Uzbekistan and Indonesia.
  5.
 Maintain High Quality.  Our products have better name recognition and
command higher prices because of their high quality.  Our peptide products
have at least 99% purity compared to 95% purity of the similar products of most
other manufacturers in China.  We plan to continue to maintain the high
quality of our products through utilizing advanced technology and equipment, and
quality control in our manufacturing process.
  Principal
Products and Markets
  Our
principal products are prescription polypeptide drugs used to treat immune
system malfunction and hyper function. Using various formulas, we produce a
number of peptide products with several forms of delivery including injections,
capsules and pills. We intend to concentrate our efforts for the next several
years on the development, production and sales of polypeptide
products.
  Our
principal operations are in China, where we have manufacturing facilities and
sales distribution covering every province of China.  We are engaging
mainly in manufacturing prescription polypeptide drugs. Currently, we
manufacture and market four polypeptide products across China: Thymopentin (
“TP-5”), Somatostatin (“SS”),Thymosin Alpha 1 (“Alpha 1”)and Desmopressin
Acetate ( “DDAVP”).
  Thymopentin
(“TP-5”)
  TP-5
is a two-phase immunostimulant and is used for treating tumor and hepatitis.
TP-5 has an extensive range of applications. Studies have indicated that TP-5
can significantly increase and promote the natural immune system’s ability to
defend against malignant diseases. In addition, it has been shown that TP-5 has
no toxicity and side effects, nor does it inter with other
drugs.
  We
currently produce TP-5 in two forms: TP-5 freeze-dry powder and TP-5 pre-filled
injection.
  Somatostatin
(“SS”)
  Naturally
occurring somatostatin is mainly secreted in the inferior part of the
hypothalamus and the gastrointestinal tract. Somatostatin for injection is a
synthetic cyclic 14-amino acid peptide. It is entirely identical in structure
and activity to naturally occurring somatostatin. It is believed to be an
effective treatment for acute severe pancreatitis, upper gastrointestinal
hemorrhages, pancreatic fistulas, intestinal fistulas and biliary fistulas. It
inhibits endocrine and exocrine secretions of gastric somatostatin. Compared
with Octretide, Somatostatin binds perfectly with five subtypes of somatostatin
receptors, having 2 to 1,000 times more binding affinity than
Octreotide.
  5
  We
currently produce Somatostatin in two specifications: 0.25mg and 3mg.
  Thymosin
Alpha 1 (“Alpha 1”)
  Thymosin
Alpha 1 provides a safe and effective treatment for chronic hepatitis B when
used alone or in combination with interferon. Primary research indicates that
Thymosin Alpha 1 is also useful in treating a number of other diseases as well,
including hepatitis C, malignant tumors, melanoma and HIV/AIDS.
  We
currently produce Thymosin Alpha 1 in a 1.6mg specification.
  Desmopressin
Acetate Injection (“DDAVP”)
  DDAVP is
a synthetic analogue of the natural pituitary hormone 8-arginine vasopressin
(ADH), an antidiuretic hormone affecting renal water conservation. It has been
shown to improve the level of platelet aggregation and is widely used before
surgeries to prevent bleeding. It has also been shown to be a treatment for
nocturnal enuresis, central diabetes insipidus, polyuria, polydipsia mild and
moderate forms of hemophilia A. Our DDAVP product is the only DDAVP product in
China that is without chlorobutanol, a type of preservative that widely used in
DDAVP products. It has been shown that the use of chlorobutanol may cause side
effect such as cardiovascular toxicity and disorders to nervous system. We
currently produce DDAVP in two specifications: 4ug and 15ug.
  The
following tables exhibit the breakdown of our revenues for the three fiscal
years ended December 31, 2008 and 2007:
  
  6
  New
Products in the Pipeline
  Through
our research and development, co-development and purchase from institutions, we
have secured a broad product pipeline with approximately 11 peptide products in
different stages from per-clinical research to SFDA application. We believe that
these new medicines will address some of the most widespread diseases including
diabetes, coagulant disease, hydrocephalus, tumor and other diseases as set
forth below:
  No.
                                
                                Indication
                                
                                Category
                                
                                Per-
                                  clinical
                                
                                Filed and
                                  wait for
                                  permits
                                
                                soft
                                  production
                                
                                Expected
                                  Launch
                                  Day1
                                
                                Children
      dwarfishness
                                
                                New
      peptide medicine
                                
                                
                                
                                ×
                                
                                
                                
                                20102
                                
                                Diabetes
      Type I
                                
                                New
      peptide medicine
                                
                                ×
                                
                                
                                
                                
                                
                                20123
                                
                                Anticoagulant
                                
                                New
      peptide medicine
                                
                                ×
                                
                                
                                
                                
                                
                                20114
                                
                                Antiplatelet
                                
                                New
      peptide medicine
                                
                                
                                
                                ×
                                
                                
                                
                                20115
                                
                                Surgical
      hemostasis, diabetes insipidus
                                
                                Mimicry
      peptide medicine
                                
                                
                                
                                
                                
                                ×
                                
                                20096
                                
                                Gastrointestinal
      hemorrhage
                                
                                Mimicry
      peptide medicine
                                
                                
                                
                                
                                
                                ×
                                
                                20107
                                
                                Anti-premature
      delivery
                                
                                Mimicry
      peptide medicine
                                
                                
                                
                                
                                
                                ×
                                
                                20108
                                
                                Hyperlipidemia
                                
                                Generic
      medicine
                                
                                
                                
                                ×
                                
                                
                                
                                20109
                                
                                Gastric
      ulcer
                                
                                Generic
      medicine
                                
                                
                                
                                
                                
                                ×
                                
                                200910
                                
                                Anti-Hepatitis
      B Virus
                                
                                Generic
      medicine
                                
                                
                                
                                ×
                                
                                
                                
                                200911
                                
                                Hypertension
                                
                                Generic
      medicine
                                
                                
                                
                                ×
                                
                                
                                
                                2010
  Among the
new peptide products which are lunching in 2009, Entecavir (Item 10 in the above
table)is a new oral guanine nucleoside analog used in the treatment of
anti-hepatitis B virus, efficacious in inhibiting reverse transcription, DNA
replication and transcription in the viral replication process, suitable for
antivirus therapy of development trend of hepatitis B during different periods.
Based on “The Dual Protection of Strong Effectiveness and Low Drug Resistance to
Insure the Inhibition of Hepatitis B Virus Reinfection”, a report by China
Medical Tribune dated October 30th, 2008, Entecavir is the strongest antiviral
nucleoside analogue in latter days. Entecavir was researched and developed by a
subsidiary of Hainan Zhonghe Group, Co., Ltd. (Hainan Zhonghe Group), Hainan
Zhonghe Peptide Drugs Research & Development Co., Ltd. (Zhonghe Peptide),
and the Entecavir Dispersible Tablets are currently under clinical trial and are
expected to obtain production approval in the second half of 2009. During 2008,
Zhonghe granted a loan of approximately $4.4 million to Hainan Zhonghe Group and
Zhonghe Peptide to support research and development of Entecavir. In March,
2009. Zhonghe obtained exclusive producing and selling right of
Entecavir.
  We expect
the launch of these products will augment our product line and diversify our
product mix.
  Research
and Development
  We
currently conduct all of our research and development (“R&D”) activities
through our affiliates and through collaborative arrangements with universities
and research institutions in the PRC.  Two of our affiliates have their own
research, development and laboratory facilities located near our headquarters in
the city of Haikou, Hainan Province.  Additionally, we have established
several long-term partnerships with well-known universities and research
institutions in the PRC.
  Sales
and Marketing
  Currently,
we have 25 sales and marketing staff all based in our headquarters Haikou,
Hainan Province, PRC.  They are responsible for managing our relationship
with all distributors and coordinating marketing activities.  Our marketing
activities include advertising in medical magazines, conducting product seminars
at hospitals and medical institutions and sponsoring academic conferences.
 We have also set up funds for research awards in the peptide medical
research areas.
  Safety
and Quality Assurance
  In
accordance with Good Manufacturing Practice (“GMP”) requirements, the Company
has written and implemented a quality assurance validation plan, procedures, and
a complete documentation system. The Company’s existing manufacturing facilities
has received the Certificate of Good Manufacturing Practices for Pharmaceutical
Products issued by Chinese State Food and Drug Administration (“SFDA”) in 2003
and renewed in early 2008. Our phase II pharmaceutical plant, Injection
Preparation Plant has obtained GMP approval on September 29, 2008 and went into
production in October of that year. The Solid Oral Preparation Plant has been
installed and debugged completely; expecting to get GMP approval in April of
2009 and begin production thereafter.
  7
  A strict
quality control system ensures that all products are produced in a
pollution-free, contamination-free and efficient production environment
following strict quality-oriented procedures.  The warehouse for finished
products is adjacent to the production line, and is managed under the same
stringent hygienic requirements.
  The
Company has a professional quality control team responsible for the supervision,
management and quality assurance of the whole production process and allocated a
general manager of the department to directly accountable for the quality of all
products.
  Materials
and Suppliers
  Raw
materials are sourced principally in the PRC and 90% of our raw materials
consist of amino acids and are generally available from a variety of suppliers.
 We seek to mitigate the risk of a shortage of raw materials through
identification of alternative suppliers for the same or similar raw materials,
where available.  We have purchasing staff with extensive knowledge of our
products who work with marketing, product research and development and
quality control personnel to source raw materials for products and other items.
Although one supplier accounts for more than 60% of our total raw material
purchases in 2008, we have identified various other suppliers if a change in
supplier is required as there are many manufacturers of amino acids in the
PRC.
 
 Supplier accounting for more than 5% aggregate purchase amount in 2008Name of Entity
                              
                              Purchase Amount
                                in Current Year
                                (RMB)
                              
                              
                              Purchase Amount
                                in Current Year
                                (USD)
                              
                              
                              % to total amount
                                of purchase
                                amountSinopep
      Pharmaceutical Inc.,
                              
                              
                              10,691,700.00
                              
                              
                              
                              1,541,743.14
                              
                              
                              
                              64.44
                              %Shuangfeng
      Glass (Original Zhenjiang Shuangfeng Pharmaceutical Packaging Co.,
      Ltd.
                              
                              
                              1,812,450.00
                              
                              
                              
                              261,355.29
                              
                              
                              
                              10.92
                              %Ningbo
      Yonzhou Jinyi Dairly Chemical Package Co., Ltd.
                              
                              
                              1,029,426.30
                              
                              
                              
                              148,443.27
                              
                              
                              
                              6.20
                              %Hainan
      Xingyuan Business Trade Co., Ltd.
                              
                              
                              912,806.63
                              
                              
                              
                              131,626.72
                              
                              
                              
                              5.50
                              %Total
                              
                              
                              14,446,382.93
                              
                              
                              
                              2,083,168.42
                              
                              
                              
                              87.06
                              %
  Customers
and Distribution
  Currently,
our products are sold primarily in the PRC through pharmaceutical distribution
companies that are licensed by the PRC government which in turn sell our
products to hospitals and medical institutions.  We enter into distribution
arrangements with these distributors and provide them exclusivity for a period
of time within a particular geographical area.
  Currently,
we utilize approximately 227 distributors throughout China with one major
distributor for each province, municipality directly under the jurisdiction of
the central PRC government and major city under the jurisdiction of provincial
governments.
  The map
below exhibits the locations of our distributors as of December 31,
2008.
  8
  
  Each of
the distributors is evaluated on an annual basis and a specific performance
target is set for each distributor that varies with the location and the size of
the market. Chongqing took the place of Beijing (the largest market for our
products in 2007) as the largest market for our products in 2008. The following
table sets forth distributors that generated more than 5% of our total sales in
2008:
  Distributor
generating with more than 5% of our aggregate sales in 2008
 Name
      of Distributor
                              
                              Amount(RMB)
                              
                              
                              Amount(USD)
                              
                              
                              % to Total Sales
                                RevenueChongqin
      Dinghai Pharmaceutical Co., Ltd.
                              
                              
                              7,994,384.64
                              
                              
                              
                              1,152,790.27
                              
                              
                              
                              9.92
                              %Beijing
      Xingshengyuan Pharmaceutical Ltd.
                              
                              
                              6,633,735.05
                              
                              
                              
                              956,584.59
                              
                              
                              
                              8.23
                              %Jiangxi
      Jinsheng Pharmaceutical Ltd.
                              
                              
                              6,531,794.84
                              
                              
                              
                              941,884.82
                              
                              
                              
                              8.10
                              %Hainan
      Heyi Pharmaceutical Co., Ltd.
                              
                              
                              5,033,675.22
                              
                              
                              
                              725,855.97
                              
                              
                              
                              6.25
                              %Total
                              
                              
                              26,193,589.75
                              
                              
                              
                              3,777,115.65
                              
                              
                              
                              32.50
                              %
 
 Over the
past several years, we have continuously expanded our distribution channels for
our products at the province and major city levels. In the near future, we plan
to penetrate China’s secondary cities. We are also seeking to expand into
international markets and have been granted a permit in Uzbekistan and are in
the process of securing a permit in Korea.
  Competition
  Competition
in the polypeptide drug industry is intense in China and throughout the world.
 We compete with various firms, many of which produce and market products
similar to our products, and many of which, especially international
competitors, have greater resources than us in terms of manufacturing and
marketing capabilities, management expertise and breadth, and financial
wherewithal.  Some of these competitors are far larger, have more resources
than us and have stronger sales and distribution networks.
  Our
direct competitors are domestic firms engaged in developing, manufacturing and
marketing prescription polypeptide products. There are numerous such companies
in the PRC.  We believe most Chinese synthetic peptide manufacturers are
very small-scale operations that use dated biotechnologies and have high
operating costs. Furthermore, due to technological limitations, their peptide
drugs have a relatively lower efficacy rate and lower purity (compared to
Western counterparts), as well as a higher incidence of potential side effects.
 For instance, cheaper peptide drugs has relatively low purity of around
95%, which is the required purity by SFDS of the PRC and means the active
component accounts for 95% with 5 % of impurity and water. In contrast, our
peptide products have at least 99% purity and we believe we deliver top
quality peptide drugs in PRC.
  9
  Compared
to our Chinese competitors, we have a wider range of peptide drugs to offer than
any other domestic competitors as shown below:
 
 Manufacturer/Brand
                              
                              TP-5 power
                                for Injection
                              
                              TP-5 Per-
                                filled
                                injection
                              
                              Thymosin
                                alpha 1 for
                                Injection
                              
                              Somatostatin for
                                Injection
                              
                              Desmopressin
                                Acetate Injection
                                (DDAVP)Zhonghe
                              
                              Hexin
                              
                              Hexin
                              
                              Heri
                              
                              Hening
                              
                              HeyiShenzhen
      Hanyu
                              
                              Hanqiang
                              
                              
                              
                              
                              
                              Hankang
                              
                              HanguBeijing
      SL
                              
                              O’ning
                              
                              
                              
                              
                              
                              ShantingWuhan
      Hualong
                              
                              WutaiHayao
      Group
                              
                              TaipudingBeijing
      Shiqiao
                              
                              TongdaHainan
      Shuangcheng
                              
                              
                              
                              
                              
                              JitaiChengdu
      Di’ao
                              
                              
                              
                              
                              
                              MaipuxinNanjing
      Changao
                              
                              
                              
                              
                              
                              
                              
                              Lizhixue
  We are
also facing competition from multinational drug manufacturers that are doing
business in China.  These well-established biopharmaceutical giants have
better resources and a proven track record for successful product development
and commercialization. These competitors may be able to develop more proficient
and more affordable peptide products. However, we believe we have price
advantages compared with multinational manufacturers. Our peptide products are
usually only 60% of that of similar international brand products.
  The following table shows the products that certain international
competitors are marketing in China:
 
 Manufacturer/Brand
                            
                            TP-5 power
                              for Injection
                            
                            TP-5 Per-
                              filled
                              injection
                            
                            Thymosin a1
                              for Injection
                            
                            Somatostatin for
                              Injection
                            
                            Desmopressin
                              Acetate Injection
                              (DDAVP)Zhonghe
                            
                            Hexin
                            
                            Hexin
                            
                            Heri
                            
                            Hening
                            
                            HeyiFerring
                            
                            
                            
                            
                            
                            
                            
                            
                            
                            MinirinSiclone
                            
                            
                            
                            
                            
                            ZadaxinSwiss
      Serono
                            
                            
                            
                            
                            
                            
                            
                            Stilanmin
  Although
we have enjoyed advantages in the polypeptide market in China, we expect that
the competition for peptide products in the PRC will become more intense over
the next few years both from existing competitors and new market entrants.
 We will also face more competition from foreign companies who may have
established products, a strong proprietary pipeline and strong financial
resources.   Our management believes that we have certain competitive
advantages in introducing new products to market due to key focus areas for
development, our existing distribution channels, research and development
capabilities and our relationship with certain universities and other research
institutions.
  Employees
  As of
December 31, 2008, we have approximately 141 employees with 53 in manufacturing,
12 in quality assurance and controls, 26 in research and development, 25 in
sales and marketing, and 25 in management. 53 of the employees have a bachelor
or higher degree.
  As
required by applicable Chinese law, we have entered into employment
contracts with all the employees. Key employees in the Company are also required
to sign a confidentiality and non-compete agreement prohibiting them from
disclosing our trade secrets or using them for purposes other than benefiting
the Company.
  Our
employees in China participate in a state pension program organized by
Chinese municipal and provincial governments.  We are required to
contribute to the program at the rate of 20% of the average monthly
salary.  In addition, we are required by Chinese law to cover employees in
China with other types of social insurance. Our total contribution may amount to
as much as 30% or more of the average employees monthly salary. We have
purchased social insurance for all of our employees. Social insurance expenses
were approximately $64,535 and $84,329 for fiscal year 2007 and 2008,
respectively. We believe we have paid for all social insurance due in accordance
with Chinese law.
  Government
Regulation
  Regulatory
Environment
  Our
principal  market is in the PRC.   We are subject to the
Pharmaceutical Administrative Law of the PRC, which governs the licensing,
manufacturing, marketing and distribution of pharmaceutical products in the PRC,
and sets penalties for violations.   Our business is subject to
various regulations and permit systems of the State Food and Drug Administration
of China (“SFDA”). Additionally, we are subject to government licensing rights
and regulations relating to our peptide drug permits which are granted on a
non-exclusive basis and limited for four to five years.
  10
  SFDA
Licenses
  The SFDA
issues licenses and petitions for permission to manufacture and market
pharmaceutical products in the PRC.  Our licenses relate primarily to
medical manufacturing licenses.  Peptide drug products also require a
permit for sales, which permits are generally granted on a non-exclusive basis
for five years.
  Foreign-owned
Enterprise Law
  Because
our subsidiary in the PRC is majority foreign-owned enterprise, we are subject
to the law of foreign investment enterprises in the PRC, and the foreign company
provisions of the Company Law of China, which governs the conduct of our
wholly-owned subsidiaries and their officers and directors, and also limits our
ability to pay dividends.
  Compliance
with Environmental Law
  We must
comply with the Environmental Protection Law of the PRC, as well as applicable
local regulations.   In addition to compliance with the PRC law and
local regulations, we consistently undertake active efforts to ensure the
environmental sustainability of our operations.   Because the
manufacturing of herb and plant-based products does not generally cause
significant damage or pollution to the environment, the cost of complying with
applicable environmental laws is not material.   In the event we fail
to comply with applicable laws, we may be subject to
penalties.
  Intellectual
Property
  We regard
our service marks, trademarks, trade secrets, patents and similar intellectual
property (“IP”) as critical to our business.  We have relied, and will
continue to rely, on patent, trademark and trade secret law, as well as
confidentiality and license agreements with certain of our employees,
consultants, customers and others, to protect our proprietary rights.
  Under the
PRC law, medical products which have received approval from the SFDA, have
automatic protected IP rights for a seven-year period from the date of grant of
such approval. The four polypeptide drugs we are currently manufacturing have
been granted such licenses and those license expired recently.  We have
secured licenses for the 12 products in the pipeline from universities and other
medical research institutions.
  Trademarks
  We have
numerous registered trademarks for our polypeptide products.
  Item
1A. Risk Factors
  An
investment in our securities is speculative and involves a high degree of risk.
You should carefully consider the risks described below and the other
information in this current report before purchasing any securities. The risks
and uncertainties described below are not the only ones facing us. Additional
risks and uncertainties may also adversely impair our business operations. If
any of the events described in the risk factors below actually occur, our
business, financial condition or results of operations could suffer
significantly. In such case, the value of your investment could decline and you
may lose all or part of the money you paid to buy the securities.
  Risks
Related To The Company
  Our product line is limited
to only four products, Thymopentin (TP-5), Desmopressin Acetate (DDAVP),
Somatostatin (SS), and Thymosin Alpha 1. Any adverse effects upon the
manufacturing, sales, or distribution channels of any one of these four products
could adversely affect our financial condition and results of
operations.
  Our four
products, TP-5, DDAVP, SS and Thymosin Alpha 1, are our major sources of
revenues, approximately 99.05% in 2008 and 99.47% in 2007. In the near future,
these four products will continue to be the major sources of our revenues.
 Because of our reliance upon these  products, any adverse effects
upon the manufacturing, sales, or distribution channels will affect our ability
to deliver our products to our customers, or increase our costs, which in turn
will adversely affect the orders for our products. This could result in adverse
effects upon our financial results and conditions.
  A significant portion of our
revenue is concentrated on a few large customers. If we lose one or more of
them, our results of operations and financial condition may be adversely
impacted.
  In 2008,
8.23% of our total sales was from one single customer. A significant portion of
our account receivables is also from this customer. As of December 31, 2008, we
had account receivable balance of approximately $5,769,370 21.5% or $1,240,606
belonging to this one customer,.  The concentration of account receivables
in one customer presents a significant risk.  If this customer does not
make payment on time or ceases to order our products, our financial conditions
and results of operations may be adversely affected.
  11
  The long-term effectiveness
of peptide drugs have not been proven.
  Our
business focuses almost exclusively on the manufacture and marketing of peptide
drugs.  Our peptide drugs, including, TP-5, DDAVP, SS and Thymosin Alpha 1,
are relatively new types therapy drugs. We sold our first drug in 1997. Although
current studies on the use of peptide drug for treatment have shown a reduction
in short-term side effects compared to other drugs and suggest an improvement in
long-term results, there are presently very few long-term studies of over 15
 years on the effectiveness of using peptide technology for treatment. We
plan to continue our participation in future long-term studies of the
effectiveness of our products. These long-term studies include a large scale
clinical study in collaboration with the Ministry of Health of the People’s
Republic of China, or MOH, based on the conditional approval received for our
Investigational Device Exemption (IDE) application. If any of these studies fail
to confirm the effectiveness of our peptide drug or other peptide medical
products, our sales could decline. Moreover, there may be other clinical studies
published on our drug products of which we are not aware and which contain
different conclusions with respect to the safety, effectiveness or other aspects
of our technologies. Our customers and users of our products may conclude that
our products are not an acceptable treatment regimen, that the technologies
underlying our products are ineffective or unsafe, or that our products are less
effective or safe than other drugs. This could result in a decrease in our
sales, which would have a material adverse effect on our business, results of
operations and financial condition.
  Our focus on acquisitions of
new products or technologies may result in integration costs, failures and
dilution to existing stockholders.
  We have
been relying on our affiliates and academic institutions to develop new drugs..
We continue to seek attractive opportunities to acquire new products or
technologies, particularly those that could assist us in advancing our current
market penetration, or in expanding our product offerings. If we decide to
acquire another company or its assets in order to obtain its products or
technologies, we would face a number of risks including consummating the
acquisition on unfavorable terms and not obtaining adequate financing, which may
adversely affect our ability to develop new products and services and to compete
in our rapidly changing marketplace. These acquisitions could also require that
our management develop expertise in new areas, manage new business relationships
and trade models, and attract new customers. Successful management and
integration of acquisitions are subject to a number of risks, including
difficulties in assimilating acquired operations and managing remote operations,
potential loss of key employees, diversion of management’s attention from
existing business operations, assumption of contingent liabilities and
incurrence of potentially significant write-offs, which may adversely affect our
business or results of operations. In addition, if we consummate such an
acquisition through an exchange of our securities, our existing stockholders
could suffer dilution.
  If we fail to effectively
manage our distribution network, our business, prospects and brand may be
materially affected by actions taken by our distributors.
  We have a
limited ability to manage the activities of our  distributors, who are
independent from us since we rely exclusively on these independent distributors.
Our distributors could take one or more of the following actions, any of which
could have a material adverse effect on our business, prospects and
brand:
  ·
              sell products that compete with
      our products in breach of their non-competition agreements with
      us;
  ·
              fail to adequately promote our
      products;
  ·
              fail to provide proper service to
      our end-users; or
  ·
              violate the anti-corruption laws
      of China.
  Failure
to adequately manage our distribution network or the non-compliance of our
distributors with their obligations under distribution agreements with us could
harm our corporate image among end users of our products and disrupt our sales,
resulting in a failure to meet our goals for sales. The PRC government has
increased its anti-bribery efforts in the healthcare sector to reduce improper
payments received by hospital administrators and doctors in connection with the
purchase of pharmaceutical products. We can not guarantee that our distributors
will not violate these laws or otherwise engage in illegal practices with
respect to their sales or marketing of our products.
  Our business may suffer if
we are unable to collect payments from customers of our products on a timely
basis.
  Before
2006, we permitted our distributors and other customers to distribute our
products on credit. Our distributors and other customers must make a significant
commitment of capital to purchase our products. Any downturn in the businesses
of our distributors and other customers of our products could reduce their
willingness or ability to pay us. Therefore, historically we have not been able
to collect all of our accounts receivable from our distributors and other
customers. After 2006, we required our distributors and other customers to make
payments before we deliver our products to them. Consequently, we have been able
to collect all of our receivable since 2006. However, we are still not able to
collect all our receivable before 2006. The failure of any of our distributors
and other customers of our products to make timely payments could require us to
recognize an allowance for doubtful accounts, which could have a material
adverse effect on our results of operations and financial
conditions.
  12
  We are subject to product
liability exposure and have limited insurance coverage.
  Our
products are for the treatment of patients and we are exposed to potential
product liability claims in the event that the use of our products cause or are
alleged to have caused personal injuries or other adverse effects.  A
successful product liability claim against us could require us to pay
substantial damages. Product liability claims against us, whether or not
successful, are costly and time-consuming to defend. Also, in the event that our
products proven to be defective, we may be required to recall or redesign such
products. We do not have any product liability insurance policy  to cover
potential product liability arising from the use of our products. To date, we
have not been subject to any product liability claim yet, but we cannot assure
you that such claim will not be brought against us in the future. A product
liability claim, with or without merit, could result in significant adverse
publicity against us, and could have a material adverse effect on the
marketability of our products and our reputation, which in turn, could have a
material adverse effect on our business, financial condition and results of
operations.
  Our limited operating
history makes evaluating our business and prospects
difficult.
  We
commenced operations in 1995, and started to market and sell our products in
1997. Our limited operating history may not provide a meaningful basis for you
to evaluate our business, financial performance and prospects. We may not have
sufficient experience to address the risks frequently encountered by early-stage
companies, and as a result we may not be able to:
  ·
              maintain
      profitability;
  ·
              preserve our leading position in
      the market of peptide drug;
  ·
              acquire and retain
      customers;
  ·
              attract, train, motivate and
      retain qualified personnel;
  ·
              keep up with evolving industry
      standards and market
developments;
  ·
              increase the market awareness of
      our products;
  ·
              respond to competitive market
      conditions;
  ·
              maintain adequate control of our
      expenses;
  ·
              manage our relationships with our
      suppliers and distributors;
or
  ·
              protect our proprietary
      technologies.
  If we are
unsuccessful in addressing any of these risks, our business may be materially
and adversely affected.
  A significant interruption
in supply could prevent or limit our ability to accept and fulfill orders for
our products.
  We
purchase all our materials from third-party suppliers. Currently, we do not have
any material long-term supply contracts with our suppliers.  Our purchases
are made on a purchase order basis. We have one major supplier (>50%), thus
there is the significant risk that the supply of certain materials will be
interrupted. In that case, our manufacturing process would be delayed. We may be
unable to secure alternative sources of supply in a timely and cost-effective
manner, which could impair our ability to manufacture our products or decrease
our costs, harm our reputation and cause us to lose sales and orders for our
products. Any of these occurrences could have a material adverse impact on our
business, financial condition and results of operations.
  We
generate a substantial portion of our revenues from sales of our Thymopentin
drug  and a reduction in revenues of our Thymopentin drug would
cause our revenues to decline and could materially harm our
business.
  We derive
a substantial percentage of our revenues from sales of the Thymopentin, or TP-5
drug. Our TP-5 drug accounted for 72% and 53% of our total revenues for the
fiscal years ended December 31, 2007 and December 31, 2008, respectively.
The segment income derived from the sale of TP-5 products was $5.37 million and
$6.17 million for the fiscal years ended December 31, 2007 and
December 31, 2008, respectively. Going forward, continued market acceptance
of our TP-5 drug will remain important to our success, and a reduction in
revenues from sales of our TP-5 drug  will have a direct negative impact on
our business, financial condition and results of operations.
  Rapid growth and a rapidly
changing operating environment may strain our limited
resources.
  Our
growth strategy includes our efforts to build our brand, develop new products,
and accelerate market acceptance of our products. This growth strategy requires
significant capital resources, and we may not generate an adequate return on our
investment. Our growth may involve the acquisition of new technologies,
businesses, products or services, the creation of strategic alliances in areas
in which we do not currently operate or the expansion of our distributor network
and direct sales force. This could require our management to develop expertise
in new areas, manage new business relationships and attract new types of
customers. We may also experience difficulties integrating these acquired
businesses, products or services into our existing business and operations. The
success of our growth strategy also depends in part on our ability to utilize
our financial, operational and management resources and to attract, train,
motivate and manage an increasing number of employees.
  13
  Our
drug-development program depends upon third-party research scientists who are
out of our control .
  We depend
upon independent investigators and collaborators, such as universities and
medical institutions, to conduct our pre-clinical and clinical trials under
agreements with us. These collaborators are not our employees and we cannot
control the amount or timing of resources that they devote to our programs.
These investigators may not assign as great a priority to our programs or pursue
them as diligently as we would if we were undertaking such programs ourselves.
If outside collaborators fail to devote sufficient time and resources to our
drug-development programs, or if their performance is substandard, the approval
of our applications, if any, and our introduction of new drugs, if any, will be
delayed. These collaborators may also have relationships with other commercial
entities, some of whom may compete with us. If our collaborators assist our
competitors at our expense, our competitive position would be
harmed.
  If we fail to increase
awareness and acceptance of our drugs in the medical community and among
patients, we will not be able to grow or even sustain the market for our peptide
drugs.
  Our
peptide drugs, including, TP-5, DDAVP, SS, and Thymosin Alpha 1,  use a
relatively new solid phase peptide synthesis technology and purification
technology. To achieve greater penetration of the potential market in China, we
must increase market awareness and use of our peptide drugs, which depend on,
among other things, the following:
  ·
              the general levels of awareness
      and acceptance in the medical community and among patients of peptide
      drugs;
  ·
              the amount of resources we have
      available to increase product awareness and to educate potential
      purchasers and users of our peptide
  drugs;
  ·
              our ability to provide good
      technical support and customer service;
  and
  ·
              our ability to keep up with
      technological changes and remain
  competitive.
  We may
not have the financial and operational resources required to promote awareness
and acceptance of our peptide drugs as widely or rapidly as is necessary to grow
or sustain the market for our peptide drugs. If we fail to increase awareness
and acceptance of our peptide drugs in the medical community and among patients,
we will not be able to grow, or even sustain, the market for our peptide drugs
as planned and our financial condition and results of operations will be harmed.
The amount of resources we have available to marketing our products are
approximately US $1 million.
  We face fierce price
competitions after the exclusive licensing rights from Chinese SFDA of our drugs
expire and our financial conditions will be adversely
impacted.
  Our drugs
face fierce price competitions from generic drugs manufactured by small to
mid-sized drug manufacturers. Even though the quality of these generic drugs is
inferior to our drugs, the price of these generic drugs is very attractive. Once
the exclusive licensing rights from Chinese SFDA for our drugs expire, our
financial results will be adversely affected because of competitions from these
generic drugs.
  We may face significant
challenges in the progress toward our strategic objectives which may adversely
affect our financial results and conditions.
  We face
significant obstacles in our quest for new markets, such as costs for
penetrating new markets, the hire and retention of sufficient qualified sales
and distribution staff members, implementation of overseas expansion efforts,
and establishment and maintenance of a model system. We cannot guarantee the
success of these strategies or objectives. We make our business plans and
strategies based on today’s situation and certain assumptions. There are
inherent risks and uncertainties within each stages of the development.
 These significant obstacles could adversely affect our results of
operations and financial conditions.
  If we fail to protect our
intellectual property rights, our competitors may take advantage of our
proprietary technology and know-how and compete directly against
us.
  We have
not obtained any patent rights for our products in China yet. We applied for
patent rights in China for the following inventions:  Acetic acid to
ammonia pressure injection, Thymopentin nasal spray’s preparation and
application and Thymopentin injection prescription. We have obtained the
approval of the Food and Drug Administration Bureau of the Republic of
Uzbekistan for our TP-5 products in 2004. We are in the process of applying to
South Korea and Indonesia Food and Drug Administrations for certifications.
  Implementation
of PRC intellectual property-related laws has historically been lacking,
primarily because of ambiguities in the PRC laws and difficulties in
enforcement. Accordingly, intellectual property rights and confidentiality
protections in the PRC may not be as effective as in the United States
or other developed countries. Policing unauthorized use of proprietary
technology is difficult and expensive, and we might need to resort to litigation
to enforce our rights or defend us, or to determine the enforceability, scope
and validity of our proprietary rights or those of others. Such litigation may
require significant expenditure of cash and management efforts and could harm
our business, financial condition and results of operations. An adverse
determination in any such litigation will impair our intellectual property
rights and may harm our business, competitive position, and business
prospects.
  14
  We may be exposed to
intellectual property infringement and other claims by third parties, which, if
successful, could cause us to pay significant damage awards and incur other
costs.
  While we
believe that the technology we use is not protected by any patent or
intellectual property rights, we face the risk of being the subject of
intellectual property infringement claims. The defense and prosecution of
intellectual property suits, patent opposition proceedings and related legal and
administrative proceedings can be both costly and time consuming and may
significantly divert the efforts and resources of our technical and management
personnel. An adverse determination in any such litigation or proceedings to
which we may become a party could subject us to significant liability, including
damage awards to third parties, require us to seek licenses from third parties,
to pay ongoing royalties, or to redesign our products or subject us to
injunctions preventing the manufacture and sale of our products. Protracted
litigation could also result in our customers or potential customers deferring
or limiting their purchase or use of our products until resolution of such
litigation.
  Our operations might be
interrupted by the occurrence of a natural disaster or other catastrophic
events.
  Almost
all of our manufacturing and research and development facilities are located in
a single location in Hainan Province, China. Typhoon happens frequently during
the summer in Hainan Province, which will possibly ruin our manufacturing
facilities. In addition, other natural disasters or catastrophic events,
including power interruptions, water shortages, storms, fires, earthquakes,
terrorist attacks and wars could disrupt our operations. Although we have some
spare facilities, we do not maintain all back-up facilities for the continued
operation of our business in the above circumstances. We might suffer losses as
a result of business interruptions and our operations and financial results
might be materially and adversely affected should these catastrophic events
occur. Moreover, any such event could delay our research and development
programs which will adversely impact our business operations and financial
results.
  If we are unable to
successfully operate and manage our manufacturing operations, we may experience
a decrease in revenues.
  As we
ramp up our manufacturing operations to accommodate our planned growth, we may
encounter difficulties associated with increasing production scale, including
shortages of qualified personnel to operate our equipment or manage
manufacturing operations, as well as shortages of key raw materials for our
products. In addition, we may also experience difficulties in producing
sufficient quantities of products or in achieving desired product quality. If we
are unable to successfully operate and manage our manufacturing operations to
meet our needs, we may not be able to provide our customers with the quantity or
quality of products they require in a timely manner. This could cause us to lose
customers and result in reduced revenues.
  Our future capital needs are
uncertain and we may need to raise additional funds in the
future.
  We may
require additional cash resources in the future due to changed business
conditions or other future developments. We cannot assure you that our revenues
will be sufficient to meet our operational needs and capital requirements in the
future. In the past, we have not encountered difficulties in obtaining
financing. However, we cannot assure you that financing will be available in
amounts or on terms acceptable to us. Our future capital needs and other
business reasons could require us to sell additional equity or debt securities
or obtain a credit facility. The sale of additional equity or equity-linked
securities could result in additional dilution to our shareholders. The
incurrence of indebtedness would result in increased debt service obligations
and could result in operating and financing covenants that would restrict our
operations or our ability to pay dividends to our shareholders.
  Risks
Related To Our Management and Internal Control
  We may not be able to
achieve and maintain an effective system of internal control over financial
reporting, a failure of which may prevent us from accurately reporting our
financial results or detecting and preventing fraud.
  We are
constantly striving to establish and improve our business management and
internal control over financial reporting to forecast, budget and allocate our
funds. However, as a Chinese company that has recently become a US public
company, we face difficulties  in hiring and retaining a sufficient
number of qualified employees to achieve and maintain an effective system of
internal control over financial reporting in a short period of time. As a
result, we may experience difficulty in collecting financial data and preparing
financial statements, books of account and corporate records, and instituting
business practices that meet international standards in a short
period.
  We depend on key personnel
for our business operations, whose discontinuance could incur high replacement
costs.
  Our
future success depends substantially on the continued services of our executive
officers, especially Mr Xueyun Cui, our chairman, Mr. Xiaoqun Ye, our chief
executive officer, and chief quality control officer, Zhenhong Ling. Although we
have long-term employment contracts with management personnel, if one or more of
our key executive officers are unable or unwilling to continue in their present
positions, we may not be able to replace them readily, if at all. Therefore, our
business may be severely disrupted, and we may incur additional expenses and
require additional time to recruit and retain new officers.
  15
  Risks
Related To The Industry
 
 Disruptions in the capital
and credit markets related to the current national and worldwide financial
crisis, which may continue indefinitely or intensify, could adversely affect our
results of operations, cash flows and financial condition, or those of our
customers and suppliers.
 
 The
current disruptions in the capital and credit markets may continue indefinitely
or intensify, and adversely impact our results of operations, cash flows and
financial condition, or those of our customers and suppliers. Disruptions in the
capital and credit markets as a result of uncertainty, changing or increased
regulation, reduced alternatives or failures of significant financial
institutions could adversely affect our access to liquidity needed to conduct or
expand our businesses or conduct acquisitions or make other discretionary
investments, as well as our ability to effectively hedge our currency or
interest rate. Such disruptions may also adversely impact the capital needs of
our customers and suppliers, which, in turn, could adversely affect our results
of operations, cash flows and financial condition.
  In order to manufacture and
market our products, we are required to obtain various authorizations from
governmental regulatory authorities in China and other countries. If we fail to
obtain clearance or approvals in a timely fashion, our business may be
significantly affected.
  The sale
and marketing of our products are subject to regulation in China. We are
required to obtain registrations with the State Food and Drug Administration (
the “SFDA”) and the regulatory authorities in charge of the approval in
countries where we plan to export. The process for obtaining regulatory
clearances or approvals can be lengthy and expensive, and the results are
unpredictable. In addition, the relevant regulatory authorities may introduce
additional requirements or procedures that have the effect of delaying or
prolonging the regulatory clearance or approval for our existing or new
products. If we are unable to obtain clearances or approvals needed to market
existing or new products, or obtain such clearances or approvals in a timely
fashion, our business could be significantly disrupted, and sales and
profitability could be materially and adversely affected.
  We are
required to obtain registration certificates from the SFDA in order to sell our
drugs. We will need to renew the registration certificates once they expire. We
are also required to obtain production permits from the provincial level food
and drug administration before commencing the manufacture of our products. Once
our production permits for the manufacture of our products expire, we will need
to renew such production permits. We do not foresee any significant difficulties
in obtaining such renewal. But if we fail to obtain such renewal in a timely
fashion, our business may be adversely affected.
  In April
2007, the SFDA announced a new regulation that was implemented on
October 1, 2007. Reagents used for IVD testing are divided into six
different categories, Classes I through VI, depending on the degree of risk
associated with each reagent, with the lower number of class representing longer
period of exclusive licensing right.  We list our products below to
classify them into different categories.
  Product
      Name
                              
                              Category
                              
                              Registration
      certificate expire
                                dateThymopentin
      for Injection (TP-5)
                              
                              Class
      5
                              
                              Dec
      2010Desmopressin
      Acetate Injection (DDAVP)
                              
                              Class
      6
                              
                              May
      2011Somatostatin
      for Injection (SS)
                              
                              Class
      6
                              
                              Nov
      2014Thymosin
      a1 for Injection (Alpha 1)
                              
                              Class
      4
                              
                              Sep.
      2010
  We are
required to obtain a registration certificate for each reagent prior to selling
that reagent for clinical use. However, a reagent that is used for research
purpose only is exempt from registration and/or approval. A reagent kit intended
for research use only must comply with the labeling requirements that present
the statement: “For research use only. Not for use in diagnostic procedures” on
the package.  Before receiving the necessary registration certificates,
these products can be sold for research only. Thus, this may delay the surge of
sales in these products.
  Outside
the PRC, our ability to market any of our potential products is contingent upon
receiving marketing authorizations from the appropriate foreign regulatory
authorities. These foreign regulatory approval processes include all of the
risks associated with the SFDA approval process described above and may include
additional risks.
  We may not be able to comply
with applicable good manufacturing practice requirements and other regulatory
requirements, which could have a material adverse effect on our business,
financial condition and results of operations.
  We are
required to comply with applicable good manufacturing practice regulations,
which include requirements relating to quality control and quality assurance as
well as corresponding maintenance, record-keeping and documentation standards.
Manufacturing facilities must be approved by governmental authorities before we
can use them to commercially manufacture our products and are subject to
inspection by regulatory agencies.
  If we
fail to comply with applicable regulatory requirements at any stage during the
regulatory process, including following any product approval, we may be subject
to sanctions, including:
  ·
              fines;
  ·
              product recalls or
      seizure;
  16
  ·
              injunctions;
  ·
              refusal of regulatory agencies to
      review pending market approval applications or supplements to approval
      applications;
  ·
              total or partial suspension of
      production;
  ·
              civil penalties;
      and
  ·
              withdrawals of previously
      approved marketing
applications.
  Unpredictable local policy
changes where our factories are located may adversely affect our
business.
  Our
business activities are regulated by Chinese laws and local regulations
regarding food, nutritional products and medicine.  Some of these local
regulations are related to administrative permits and approvals.  The
expiration or restrictions on these permits or approvals for our drugs may
adversely affect our sales. Recent policy changes on drug sales dramatically
affect our drug sales price and sales entrance to various hospitals.  As a
result, these changes may adversely affect our results of operations and
financial conditions.
  New product development in
the medicine and supply industry is both costly and labor-intensive and has a
very low rate of successful commercialization.
  Our
success will depend in part on our ability to enhance our existing
products/drugs and to develop and acquire new drugs. The development process for
medical products is complex and uncertain, as well as time-consuming and costly.
Product development requires the accurate assessment of technological and market
trends as well as precise technological execution. We cannot assure you
that:
  ·
              our product/drug development will
      be successfully completed;
  ·
              necessary regulatory clearances
      or approvals will be granted by SFDA, or other regulatory bodies as
      required on a timely basis, or at all;
or
  ·
              any product/drug we develop can
      be commercialized or will achieve market
  acceptance.
  Also, we
may be unable to locate suitable products/drugs to acquire or acquire such
products/drugs on commercially reasonable terms. Failure to develop or acquire,
obtain necessary regulatory clearances or approvals for, or successfully
commercialize or market potential new products/drugs could have a material
adverse effect on our financial condition and results of
operations.
  Clinical trials are very
expensive, time-consuming and difficult to design and
implement.
  Human
clinical trials are very expensive and difficult to design and implement, in
part because they are subject to rigorous regulatory requirements. The clinical
trial process is also time consuming. We estimate that clinical trials of our
product candidate will take at least several years to complete. Furthermore,
failure can occur at any stage of the trials, and we could encounter problems
that cause us to abandon or repeat clinical trials. The commencement and
completion of clinical trials may be delayed by several factors, including with
no limitation:
  ·
              unforeseen safety
      issues;
  o·
              determination of dosing
      issues;
  ·
              lack of effectiveness during
      clinical trials;
  ·
              slower than expected rates of
      patient recruitment;
  ·
              inability to monitor patients
      adequately during or after treatment;
and
  ·
              inability or unwillingness of
      medical investigators to follow our clinical
    protocols.
  In
addition, the SFDA, any SFDA-equivalent in foreign jurisdictions, may suspend
our clinical trials at any time if it appears that we are exposing participants
to unacceptable health risks or if the regulatory bodies find deficiencies in
our Investigational New Drug, or IND, submissions or the conduct of these
trials. Therefore, we cannot predict with any certainty the schedule for future
clinical trials.
  The results of our clinical
trials may not support our product candidate claims.
  Even if
our clinical trials are completed as planned, we cannot be certain that their
results will support our product candidate claims. Success in pre-clinical
testing and early clinical trials does not ensure that later clinical trials
will be successful, and we cannot be sure that the results of later clinical
trials will replicate the results of prior clinical trials and pre-clinical
testing. The clinical trial process may fail to demonstrate that our product
candidates are safe for humans and effective for indicated uses. This failure
would cause us to abandon a product candidate and may delay development of other
product candidates.
  17
  Physicians, patients and
other end consumers may abandon existing or chose not to accept and use our new
drugs.
  Physicians
and patients may not accept and use our products. Acceptance and use of our
product will depend upon a number of factors including:
  ·
              perceptions by members of the
      health care community, including physicians, about the safety and
      effectiveness of our
products;
  ·
              post-effectiveness of our product
      relative to competing products;
and
  ·
              effectiveness of marketing and
      distribution efforts by us and our licensees and distributors, if
      any.
  Because
we expect sales of our current and future products to generate substantially all
of our product revenues for the foreseeable future, the failure to find market
acceptance would harm our business and could require us to seek additional
financing.
  Competition in the markets
in which we operate is expected to increase in the future.
  Certain
of our existing and potential competitors have significantly greater financial,
research and development, sales and marketing, personnel resources and other
resources than we do. Competition will intensify as other companies enter our
markets. Competing companies may succeed in developing products that are more
effective or less costly than those that we may offer, and these companies may
also be more successful in marketing their products. Competing companies may
also introduce competitive pricing measures that adversely affect our sales
levels and margins. If we do not adequately address our competitive challenges,
we could lose sales and market share and fail to grow our business as planned,
which would have a material adverse effect on our financial condition, results
of operations and future growth.
  In
addition, we believe that corrupt practices in the healthcare industry in China
still occur. In order to increase sales, certain manufacturers or distributors
of medical devices may pay kickbacks to hospital personnel who make procurement
decisions. We prohibit our employees from engaging in such practices and, to our
knowledge, none of our distributors engages in such practices. However, as
competition intensifies in the medical device and supplies industry in China, we
may lose sales, customers or contracts to competitors to the extent we or our
distributors refuse to engage in such practices.
  We face competition from
multi-national corporations with more resources where we are at a
disadvantage.
  In the
poly peptide drug industry, there are competitions from multi-national
conglomerates. With the fast-changing nature of the drug industry, we face
competitions from these multi-national corporations which have better resources.
These corporations have more diversified products, longer manufacturing and
sales history and better commercialization of their products.  Competitions
from these international players may have adverse impacts on our business
conditions.
  We face intense competition
that may prevent us from maintaining or increasing market share for our existing
products and gaining market acceptance of our future products. Our competitors
may develop or commercialize products before or more successfully than
us.
  The
pharmaceutical market in China is intensely competitive, rapidly evolving and
highly fragmented. Our competitors may develop products that are superior to or
more affordable than ours or they may more effectively market products that
compete with ours. We face direct competition from manufacturers of other
medicines that are similar to our products. We also face competition from
western manufacturers of medicines, including multinational companies, that
manufacture medicines with similar curative effects and that can be used as
substitutes for our products. Many of our existing and potential competitors
have substantially greater financial, technical, manufacturing and other
resources than we do. Our competitors’ greater size in some cases provides them
with a competitive advantage with respect to manufacturing costs because of
their economies of scale and their ability to purchase raw materials at lower
prices. Many of our competitors also have better brand name recognition, more
established distribution networks and larger customer bases. In addition, many
of our competitors have extensive knowledge of our target markets. As a result,
they may be able to devote greater resources to the research, development,
promotion and sale of their products or respond more quickly to evolving
industry standards and changes in market conditions than we can. Our failure to
adapt to changing market conditions and to compete successfully with existing or
new competitors may materially and adversely affect our financial condition and
results of operations.
  The production of our
products/drugs depends on the supply of quality medicinal raw
materials.
  The
production of our products/drugs depends on the supply of raw materials of
suitable quality. The supply and market prices of these raw materials may be
adversely affected by various factors such as weather conditions and the
occurrence of natural disasters or sudden increases in demand that would impact
our costs of production. There is no assurance that we would be able to pass on
any resulting increase in costs to our customers and therefore any substantial
fluctuation in supply or the market prices of raw materials may adversely affect
our results of operations and profitability.
  18
  If we do not keep pace with
rapid technological change, we will be unable to capture and sustain a
meaningful market position.
  The
pharmaceutical industry in China is characterized by rapid changes in
technology, constant enhancement of industrial know-how and the frequent
emergence of new products. Future technological improvements and continued
product developments in the pharmaceutical market may render our existing
products obsolete or affect their viability and competitiveness. Therefore, our
future success will largely depend on our ability to improve our existing
products, diversify our product range and develop new and competitively priced
products that can meet the requirements of the changing market. Should we fail
to respond to these frequent technological advances by improving our existing
products or developing new products in a timely manner, or should these products
do not achieve a desirable level of market acceptance, this may adversely affect
our business and profitability.
  The ongoing anti-corruption
campaign initiated by the Chinese government targeting state-owned hospitals
could adversely affect our sales designated for hospitals.
  The
Chinese government has recently launched a nationwide campaign against corrupt
practices that have been frequently engaged by state-owned hospitals in China,
including their acceptance of kickbacks or other illegal gains and benefits in
connection with their providing medical services and purchasing medical
equipment and medicines. In mid-2006, the PRC Ministry of Health ordered all
state-owned hospitals to review, among other things, their procurement policies
and procedures and self-correct problems and deficiencies, if any, by the end of
2006. As a result of this campaign, many state-owned hospitals have since
diverted a significant portion of their attention and resources to their
self-inspection and self-correction activities and are reviewing their
procurement policies. If the anti-corruption campaign becomes more intensified,
causing a significant change to the hospitals’ procurement policies and
procedures or otherwise resulting in a further delay for state-owned hospitals
to resume their normal procurement of our products, our sales designated for
hospitals, which account for a very substantial portion of our total sales,
could be adversely affected.
  Risks
Related To Doing Business In China
  We face the risk that
changes in the policies of the PRC government could have a significant impact
upon the business we may be able to conduct in the PRC and the profitability of
such business.
  All of
our business operations are conducted in the PRC. Accordingly, our business,
financial condition, results of operations and prospects are affected
significantly by economic, political and legal developments in the PRC. The
Chinese economy differs from the economies of most developed countries in many
respects, including level of government involvement in economic activities,
stage of national development, and control of foreign exchange.
  While the
Chinese economy has grown significantly in the past twenty years, the
growth has been uneven, both geographically and among various sectors of the
economy. Policies of the PRC government can have significant effects on the
economic conditions of the PRC. The PRC government has confirmed that economic
development will follow the model of a market economy. Under this direction, we
believe that the PRC will continue to strengthen its economic and trading
relationships with foreign countries and business development in the PRC will
follow market forces. While we believe that this trend will continue, we cannot
assure you that this will be the case. A change in policies by the PRC
government could adversely affect our interests by, among other factors: changes
in laws, regulations or the interpretation of laws and regulations, confiscatory
taxation, restrictions on currency conversion, imports or sources of supplies,
or the expropriation or nationalization of private enterprises. Although the PRC
government has been pursuing economic reform policies for more than two decades,
we cannot assure you that the government will continue to pursue such policies
or that such policies may not be significantly altered, especially in the event
of a change in leadership, social or political disruption, or other
circumstances affecting the PRC’s political, economic and social
life.
  Recent PRC regulations
relating to the establishment of offshore companies by PRC residents may subject
our PRC resident shareholders to personal liability and limit our ability to
inject capital into our PRC subsidiaries, limit our subsidiaries’ ability to
distribute profits to us or otherwise adversely affect us.
  China
State Administration of Foreign Exchange, or the SAFE, issued a public circular
on October 21, 2005 concerning the acquisition by an offshore company
controlled by PRC residents of onshore assets in China. This circular requires
that (1) a PRC resident shall register with a local branch of the SAFE
before he or she establishes or controls an overseas special purpose vehicle, or
SPV, for the purpose of overseas equity financing (including convertible debt
financing); (2) when a PRC resident contributes the assets of or his or her
equity interests in a domestic enterprise to an SPV, or engages in overseas
financing after contributing assets or equity interests to an SPV, such PRC
resident must register his or her interest in the SPV and any changes in such
interest with a local branch of the SAFE; and (3) when the SPV undergoes a
material change outside of China, such as a change in share capital or merger or
acquisition, the PRC resident shall, within 30 days from the occurrence of the
event that triggers the change, register such change with a local branch of the
SAFE. Furthermore, PRC residents who are shareholders of SPVs established before
November 1, 2005 are required to register with a local branch of the SAFE
before March 31, 2006.
  The
beneficial owners of our company who are PRC residents are required to update
their respective registrations with the local branch of the SAFE. However, we
cannot assure you that these beneficial owners will update their registrations
with the local branch of the SAFE in full compliance with the October 2005 SAFE
circular. The failure or inability of beneficial owners of our company who are
resident in the PRC to comply with the registration procedures set forth in the
October 2005 SAFE circular may subject these beneficial owners to fines and
legal sanctions and may also limit our ability to contribute additional capital
into our PRC subsidiaries, limit our PRC subsidiaries’ ability to distribute
dividends to us or otherwise adversely affect our business.
  19
  The approval of the China
Securities Regulatory Commission, or the CSRC, may be required in connection
with this transaction under a recently adopted PRC
regulation.
  On
August 8, 2006, six PRC regulatory agencies, the Ministry of Commerce, the
State-owned Assets Supervision and Administration Commission, or SASAC, the
State Administration for Taxation, the State Administration for Industry and
Commerce, the CSRC, and the SAFE, jointly adopted the Regulations on Mergers and
Acquisitions of Domestic Enterprises by Foreign Investors, or the New M&A
Rule, which became effective on September 8, 2006. This New M&A Rule
requires offshore SPVs that are controlled by PRC individuals and that have been
formed through acquisitions of PRC domestic companies for the purpose of seeking
a public listing on a stock exchange outside China to obtain CSRC approval prior
to publicly listing their securities on a stock exchange outside China.
Previously the CSRC approval was not needed for this type of listing on a stock
exchange outside China. On September 21, 2006, the CSRC published a notice
on its website specifying the documents and materials that SPVs are required to
submit when seeking CSRC approval for their listings outside of China. The
interpretation and application of the New M&A Rule remain unclear, and we
cannot assure you that this transaction does not require approval from the CSRC.
These uncertainties could inhibit or delay the completion of this transaction.
On the other hand, if CSRC approval is required for this transaction, our
failure to obtain or delay in obtaining the CSRC approval for this transaction
would subject us to sanctions imposed by the CSRC and other PRC regulatory
agencies. These sanctions could include fines and penalties on our operations in
China, restriction or limitation on our ability to pay dividend outside of
China, and other forms of sanctions that may cause a material and adverse effect
on our business, results of operations and financial conditions.
  The New
M&A Rule also established additional procedures and requirements that are
expected to make merger and acquisition activities by foreign investors more
time-consuming and complex, including requirements in some instances that the
Ministry of Commerce be notified in advance of any change-of-control transaction
in which a foreign investor takes control of a PRC domestic enterprise that owns
well-known trademarks or China’s traditional brands. We may grow our business in
part by acquiring other traditional Chinese medicine businesses. Complying with
the requirements of the New M&A Rule in completing this type of transactions
could be time-consuming, and any required approval processes, including Ministry
of Commerce approval, may delay or inhibit our ability to complete such
transactions, which could affect our ability to expand our business or maintain
our market share.
  Your legal protection could
be limited. Our business is largely subject to the uncertain legal environment
in China.
  The
Chinese legal system is a civil law system based on written statutes. Unlike
common law systems, it is a system in which precedents set in earlier legal
cases are not generally used. The overall effect of legislation enacted over the
past twenty years has been to enhance the protections afforded to foreign
invested enterprises in China. However, these laws, regulations and legal
requirements are relatively recent and are evolving rapidly, and their
interpretation and enforcement involves uncertainties. These uncertainties could
limit the legal protections available to foreign investors, such as the right of
foreign invested enterprises to hold licenses and permits such as requisite
business licenses. Laws, regulations or enforcement policies in China, including
those regulating medical devices and supplies, are evolving and subject to
future change.
  You may experience
difficulties in effecting service of legal process and enforcing judgments
against us and our management in China.
  Substantially
all of our assets and our subsidiaries are located in China. In addition, all of
our directors and officers reside within China, including our certified public
accountant (“CPA”). As a result, it may not be possible to effect service of
process within the United States or elsewhere outside of China upon most of our
directors and officers and our CPA, including with respect to matters arising
under the U.S. federal securities laws or applicable state securities laws.
Moreover, China is not a party to any treaties providing for reciprocal
enforcement of judgments of courts with the United States or most other western
jurisdictions. As a result, recognition and enforcement in China of judgments of
a court in the United States or any other jurisdictions mentioned above in
relation to any matter may be difficult or impossible. In addition, you will
have difficulties in bring an original action in a Chinese court to enforce
liabilities against our directors, officers and our CPA based upon the U.S.
federal securities laws.
  The
Chinese government exerts substantial influence over the manner in which we must
conduct our business activities.
  China
only recently has permitted provincial and local economic autonomy and private
economic activities. Chinese government has exercised and continues to exercise
substantial control over virtually every sector of the Chinese economy through
regulation and state ownership. Our ability to operate in China may be harmed by
changes in its laws and regulations, including those relating to taxation,
import and export tariffs, environmental regulations, land use rights, property
and other matters. We believe that our operations in China are in material
compliance with all applicable legal and regulatory requirements. However, the
central or local governments of these jurisdictions may impose new, stricter
regulations or interpretations of existing regulations that would require
additional expenditures and efforts on our part to ensure our compliance with
such regulations or interpretations. Accordingly, government actions in the
future, including any decision not to continue to support recent economic
reforms and to return to a more centrally planned economy, or regional or local
variations in the implementation of economic policies, could have a significant
effect on economic conditions in China or particular regions thereof, and could
require us to divest ourselves of any interest we hold in Chinese
properties.
  20
  Inflation in China may
inhibit our activity to conduct business in China.
  In recent
years, the Chinese economy has experienced periods of rapid expansion and high
rates of inflation. During the past ten years, the rate of inflation in China
has been as high as 20.7% and as low as 2.2%. These factors have led to the
adoption by Chinese government, from time to time, of various corrective
measures designed to restrict the availability of credit or regulate growth and
contain inflation. While inflation has been more moderate since 1995, high
inflation may in the future cause Chinese government to impose controls on
credit and/or prices, or to take other action, which could inhibit economic
activity in China, and thereby harm the market for our products.
  Restrictions
on currency exchange may limit our ability to receive and use our revenues
effectively.
  The
majority of our revenues will be settled in RMB or Chinese Yuan and U.S.
Dollars, and any future restrictions on currency exchanges may limit our ability
to use revenue generated in RMB to fund any future business activities outside
China or to make dividend or other payments in U.S. dollars. Although the
Chinese government introduced regulations in 1996 to allow greater
convertibility of the RMB for current account transactions, significant
restrictions still remain, including primarily the restriction that
foreign-invested enterprises may only buy, sell or remit foreign currencies
after providing valid commercial documents at those banks in China authorized to
conduct foreign exchange business. In addition, conversion of RMB for capital
account items, including direct investment and loans, is subject to governmental
approval in China, and companies are required to open and maintain separate
foreign exchange accounts for capital account items. We cannot be certain that
the Chinese regulatory authorities will not impose more stringent restrictions
on the convertibility of the RMB.
  The fluctuation of the RMB
may materially and adversely affect your investment.
  The value
of the RMB against the U.S. dollar and other currencies may fluctuate and is
affected by, among other things, changes in China’s political and economic
conditions. The conversion of RMB into foreign currencies, including U.S.
dollars, has historically been set by the People’s Bank of China. On
July 21, 2005, the PRC government changed its policy of pegging the value
of the RMB to the U.S. dollar. Under the new policy, the RMB is permitted to
fluctuate within a band against a basket of certain foreign currencies,
determined by the Bank of China, against which it can rise or fall by as much as
0.3% each day. This change in policy resulted in an approximately 20.6%
appreciation in the value of the RMB against the U.S. dollar between
July 21, 2005 and June 25, 2008. Since the adoption of this new
policy, the value of RMB against the U.S. dollar has fluctuated on a daily basis
within narrow ranges, but overall has further strengthened against the U.S.
dollar. There remains significant international pressure on the PRC government
to further liberalize its currency policy, which could result in a further and
more significant appreciation in the value of the RMB against the U.S. dollar.
As we import certain materials and supplies for reagent kits from the United
States, Finland and Sweden, fluctuations in the value of the RMB against the
currencies of those countries may increase the cost of our reagent kits. For
example, to the extent that we need to convert U.S. dollars we receive from our
initial public offering into RMB for our operations, appreciation of the RMB
against the U.S. dollar would have an adverse effect on the RMB amount we
receive from the conversion. Conversely, if we decide to convert our RMB into
U.S. dollars for the purpose of making payments for dividends on our ordinary
shares or for other business purposes, appreciation of the U.S. dollar against
the RMB would have a negative effect on the U.S. dollar amount available to us.
In addition, appreciation or depreciation in the value of the RMB relative to
the U.S. dollar would affect our financial results reported in U.S. dollar terms
without giving effect to any underlying change in our business or results of
operations.
  We may
not be able to distribute our assets upon liquidation and dividend payment will
be subject to restrictions under Chinese foreign exchange rule
  Our
assets are predominately located inside China. Under the laws governing foreign
investment enterprises in China, dividend distribution and liquidation are
allowed but subject to special procedures under the relevant laws and rules. Any
dividend payment will be subject to the decision of the board of directors and
subject to foreign exchange rules governing such repatriation. Any liquidation
is subject to both the relevant government agency’s approval and supervision as
well as  the foreign exchange control. This may generate additional risk
for our investors in case of liquidation. See “Statutory Reserves”.
  A newly enacted PRC tax law
could increase the enterprise income tax rate applicable to our principal
subsidiaries in China, which could have a material adverse effect on our results
of operations.
  The newly
enacted PRC Enterprise Income Tax Law, or the EIT Law, and the implementation
regulations for the EIT Law issued by the PRC State Council, became effective as
of January 1, 2008. The EIT Law adopts a uniform income tax rate of 25% for
most domestic enterprises and foreign investment enterprises. It provides a
five-year transition period from its effective date for enterprises established
before the promulgation date of the EIT Law which were entitled to a
preferential lower tax rate under the then effective tax laws or regulations.
The State Council issued the Notice on Implementation of the Transition Period
for Preferential Enterprise Income Tax, or the Transition Implementation Notice,
on December 26, 2007, which provides detailed rules on how preferential tax
rate under previous income tax laws or regulations would transition to the
uniform 25% EIT rate. Furthermore, under the EIT Law, entities that qualify as
“high and new technology enterprises” will enjoy a preferential EIT rate of 15%.
The Ministry of Science and Technology, the Ministry of Finance and the State
Administration of Taxation issued the Measures on Qualification of High and New
Technology Enterprises, or Circular 172, on April 14, 2008, which provides
detailed standards for “high and new technology enterprises”. In addition,
according to the Notice on Prepayment of Enterprise Income Tax issued by the
State Administration of Taxation, enterprises that have previously been
certified as a “high and new technology enterprise” shall pre-pay its EIT in the
rate of 25% temporarily until it is re-certified as a “high and new technology
enterprise” under Circular 172.
  21
  We have
applied for and have been recognized as Hainan “high and new technology
enterprises” under Circular 172 in December 2008 and enjoyed preferential rate
of 15% in 2008. The period of validity of the qualification is 3 years, counted
from the date of approval of qualification, therefore we will enjoy a further
two years preferential tax rate at 15% for 2009 and 2010. Enterprises may apply
for re-recognition according to the EIT Law 3 months in advance of expiration of
qualification, if the applicant fail to file an application in limited time or
meet the requirement of re-recognition, the hi-tech qualification will cease to
be effective automatically.
  While we
may apply for re-recognition of our subsidiaries in China as hi-tech enterprises
to reduce our income tax expense, we cannot guarantee that our application will
be successful. In addition, if there are substantial changes taking place during
our operation or technology production (such as enterprise merging,
reorganization or business switch), we will probably fail to meet requirement
for hi-tech enterprise and our qualification will be terminated
accordingly.
  In that
case, we expect our income tax expense to increase significantly in the coming
years.
  If we receive dividends from
our operating subsidiaries located in the PRC, such dividends may be subject to
PRC withholding tax.
  The
newly enacted EIT Law and the implementation regulations for the EIT Law issued
by the PRC State Council, became effective as of January 1, 2008. The EIT
Law provides that a maximum income tax rate of 20% may be applicable to
dividends payable to non-PRC investors that are “non-resident enterprises,” to
the extent such dividends are derived from sources within the PRC, the State
Council has reduced such rate to 10% through the implementation regulations. We
are a Nevada holding company and may receive dividends from our operating
subsidiaries located in the PRC. Thus, dividends paid to us by our subsidiaries
in China may be subject to the 10% income tax if we are considered as a
“non-resident enterprise” under the EIT Law. If we are required under the EIT
Law to pay income tax for any dividends we receive from our subsidiaries, our
income tax expenses will be increased and the amount of dividends, if any, we
may pay to our shareholders may be materially and adversely
affected.
  We may be deemed a PRC
resident enterprise under the EIT Law and be subject to the PRC taxation on our
worldwide income.
  The EIT
Law also provides that enterprises established outside of China whose “de facto
management bodies” are located in China are considered “resident enterprises”
and are generally subject to the uniform 25% enterprise income tax rate as to
their worldwide income. Under the implementation regulations for the EIT Law
issued by the PRC State Council, “de facto management body” is defined as a body
that has material and overall management and control over the manufacturing and
business operations, personnel and human resources, finances and treasury, and
acquisition and disposition of properties and other assets of an enterprise.
Although substantially all of our operational management is currently based in
the PRC, it is unclear whether PRC tax authorities would require (or permit) us
to be treated as a PRC resident enterprise. If we are treated as a resident
enterprise for PRC tax purposes, we will be subject to PRC tax on our worldwide
income at the 25% uniform tax rate, which could have an impact on our effective
tax rate and an adverse effect on our net income and results of operations,
although dividends distributed from our PRC subsidiaries to us could be exempt
from Chinese dividend withholding tax, since such income is exempted under the
new EIT Law to a PRC resident recipient.
  We have
limited business insurance coverage in China, which could harm our
business.
  We are
exposed to many risks, including equipment failures, natural disasters,
industrial accidents, power outages, and other business interruptions. We do not
carry business interruption insurance and as a result, we may be required to pay
for financial and other losses, damages and liabilities, including those caused
by natural disasters and other events beyond our control, out of our own funds,
which could have a material adverse effect on our business, financial condition
and results of operations.
  Our
property and equipment insurance does not cover the full value of our property
and equipment, which leaves us with exposure in the event of loss or damage to
our properties or claims filed against us. We currently do not carry any
product liability or other similar insurance. We cannot assure you that we would
not face liability in the event of the failure of any of our products. This is
particularly true given our plan to significantly expand our sales into
international markets, like the United States, where product liability claims
are more prevalent.
  Except
for property and automobile insurance, we do not have other insurance such as
business liability or disruption insurance coverage for our operations in the
PRC. We do not maintain a reserve fund for warranty or defective products
claims. Our costs could substantially increase if we experience a significant
number of warranty claims. We have not established any reserve funds for
potential warranty claims since historically we have experienced few warranty
claims for our products so that the costs associated with our warranty claims
have been low. If we experience an increase in warranty claims significantly, it
would have a material adverse effect on our financial condition and results of
operations.
  Any future outbreak of
severe acute respiratory syndrome or avian influenza in China, or similar
adverse public health developments, may severely disrupt our business and
operations.
  A renewed
outbreak of severe acute respiratory syndrome, the Avian Flu or another
widespread public health problem in China, where all of our manufacturing
facilities are located and where all of our revenues are derived from, could
have a negative effect on our operations. In addition, there have been confirmed
human cases of avian influenza in PRC, Vietnam, Iraq, Thailand, Indonesia,
Turkey, Cambodia and other countries which have proven fatal in some instances.
If such an outbreak or any other similar epidemic were to spread in China, where
our operations are located, it may adversely affect our business and operating
results. Such an outbreak could have an impact on our operations as a result of
quarantines or closures of our manufacturing facilities or the retail outlets,
which would severely disrupt our operations, the sickness or death of our key
officers and employees, and a general slowdown in the Chinese
economy.
  22
  Risks
Related To The Market For Our Stock
  Our Common Stocks subject to
price volatility and may result in losses for investors.
  The stock
market has experienced significant price and volume fluctuations that have
particularly affected the trading prices of equity securities of many companies
that have business operations exclusively in China. These fluctuations have
often been unrelated or disproportionate to the operating performance of many of
these companies. Any negative change in the public perception of these companies
could decrease our stock price regardless of our operating results. We expect
our stock price to be subject to fluctuations as a result of a variety of
factors, including factors beyond our control.
  These
factors include without limitation actual or anticipated variations in our
quarterly operating results, announcements of technological innovations or new
products or services by us or our competitors, announcements relating to
strategic relationships or acquisitions, additions or terminations of coverage
of our common stock by securities analysts, statements by securities analysts
regarding us or our industry, conditions or trends in the our industry, and
changes in the economic performance and/or market valuations of other medical
product companies.
  The
prices at which our common stock trades will affect our ability to raise
capital, which may have an adverse affect on our ability to fund our
operations.
  Our common stock may be
considered to be a “penny stock” and, as such, the market for our common stock
may be further limited by certain SEC rules applicable to penny stocks.
  To the
extent the price of our common stock remains below $5.00 per share or we have
net tangible assets of $2,000,000 or less, our common shares will be subject to
certain “penny stock” rules promulgated by the SEC. Those rules impose certain
sales practice requirements on brokers who sell penny stock to persons other
than established customers and accredited investors (generally institutions with
assets in excess of $5,000,000 or individuals with net worth in excess of
$1,000,000). For transactions covered by the penny stock rules, the broker must
make a special suitability determination for the purchaser and receive the
purchaser’s written consent to the transaction prior to the sale. Furthermore,
the penny stock rules generally require, among other things, that brokers
engaged in secondary trading of penny stocks provide customers with written
disclosure documents, monthly statements of the market value of penny stocks,
disclosure of the bid and asked prices, disclosure of the compensation to the
brokerage firm, and disclosure of the sales person working for the brokerage
firm. These rules and regulations adversely affect the ability of brokers to
sell our common shares and limit the liquidity of our securities.
  We do not intend to pay cash
dividends in the foreseeable future.
  We do not
anticipate paying any cash dividends in the foreseeable future. We currently
intend to retain all available funds and any future earnings for use in the
operation and expansion of our business. In addition, the terms of any future
debt or credit facility may preclude us from paying any dividends. As a result,
capital appreciation, if any, of our common stock will be your sole source of
potential gain in your investment for the foreseeable future.
  Our chief executive officer
could exert significant influence over our significant corporate decisions and
may act in a manner that advances his best interests and not necessarily those
of other stockholders.
  Our
Chairman, Xueyun Cui, beneficially own approximately 90.09% of our common stock.
As a result,  Mr. Cui may be able to influence significantly the outcome of
all matters requiring stockholder approval, including the election and removal
of directors and any merger, consolidation, or sale of all or substantially all
of our assets and he may act in a manner that advances his best interests and
not necessarily those of other stockholders, including investors in this
offering, by, among other things: delaying, deferring or preventing a change in
control of us; entrenching our management and/or our board of directors;
impeding a merger, consolidation, takeover or other business combination
involving us; discouraging a potential acquirer from making a tender offer or
otherwise attempting to obtain control of us; or causing us to enter into
transactions or agreements that are not in the best interests of all
stockholders.
  There is currently a very
limited trading market for our common stock
  Our
common stock is quoted on the OTCBB. However, our bid and asked quotations have
not regularly appeared on the OTCBB for any consistent period of time. There is
no established trading market for our common stock and our common stock may
never be included for trading on any stock exchange or through any other
quotation system (including, without limitation, the NASDAQ Stock Market). You
may not be able to sell your shares due to the absence of a trading
market.
  23
  We will incur increased
costs as a result of changes in laws and regulations relating to corporate
governance matters.
  As a
public reporting company, we will need to comply with the Sarbanes-Oxley Act of
2002 and the related rules and regulations adopted by the SEC, including
expanded disclosures, accelerated reporting requirements and more complex
accounting rules. Compliance with Section 404 of the Sarbanes-Oxley Act of 2002
and other requirements will increase our costs and require additional management
resources. Additionally, these laws and regulations could make it more difficult
or more costly for us to obtain certain types of insurance, including director
and officer liability insurance, and we may be forced to accept reduced policy
limits and coverage or incur substantially higher costs to obtain the same or
similar coverage. The impact of these events could also make it more difficult
for us to attract and retain qualified persons to serve on our board of
directors, our board committees or as executive officers. We are presently
evaluating and monitoring developments with respect to these laws and
regulations and cannot predict or estimate the amount or timing of additional
costs we may incur to respond to their requirements.
  We may require additional
capital, which may not be available on commercially reasonable terms, or at
all.
  Capital
raise through the sale of equity securities may result in dilution to our
shareholders. The incurrence of indebtedness would result in increased debt
service obligations and could result in operating and financing covenants that
would restrict our operations. Financing may be unavailable in amounts or on
terms acceptable to us, or at all. Failure to obtain such additional capital
could have an adverse impact on our business strategies and growth
prospects.
  Our future capital raising
and the conversion of our outstanding shares of preferred stock and warrants may
dilute our shareholders’ equities.
  If we
need to obtain external financing, our capital raising could require us to sell
additional equity or debt securities or obtain credit facilities. The sale of
additional equity or equity-linked securities could result in additional
dilution to our then existing shareholders.
  Item 1B Unresolved Staff
Comments
  None.
  Item
2. Properties
  All our
properties are located in Haikou City, Hainan Province, PRC.  Under Chinese
law, the government owns all of the land in the PRC and companies and
individuals are authorized to use the land only through land use rights granted
by the PRC government.   We have land use rights for two pieces of
land with an area approximately 39,300 square meters and 28,477 square meters,
respectively and with expiration dates in 2064 and 2063, respectively.  The
structure on the land covers an area of approximately 15,549 square meters
including two manufacturing facilities, an office building, and a warehouse.
 We are in the process of registering the legal title to these land use
rights with the local government authorities and expect to complete the
registration by June 30, 2010.
  One
facility covers an area of 7,787 square meters and utilizes world advanced solid
phase peptide synthesis (SPPS) and purifying technology with an annual capacity
to synthesize 10 kg TP-5, 1 kg DDAVP, 1.5 kg Somatostatin for injection and 4kg
TA for injection in bulk and manufacture 10 million bottles of freeze dry power
of TP-5, DDAVP, SS and TA. We believe it is the largest synthesis plant in Asia.
The other facility was only completed in July 2008 with an area of 7762 square
meters.  Its designed annual capacity is 150 million tablets, 120 million
capsules, 30 million granules bags, 20 million freeze-dried powder bottles, 30
million bottles small volume injection (resistant bottles), and 10 million
small-capacity injection (pre-filling syringes). Our phase II pharmaceutical
plant, Injection Preparation Plant has obtained GMP approval on September 29,
2008 and went into production in October of that year. The Solid Oral
Preparation Plant has been installed and debugged completely; expecting to get
GMP approval in April of 2009 and begin production thereafter.
  Our main
manufacturing equipment was imported from abroad and our auxiliary equipment was
made in China. They include pumps, dryers, compressors, air conditioning units,
synthesizers, automatic liquid injection assembly, and testing instruments such
spectrometers.  We believe that all our properties and equipment have been
adequately maintained, are generally in good condition, and are suitable and
adequate for our business.
  Item
3. Legal Proceedings
  We are
not a party to any material pending legal proceedings, and to the best of our
knowledge, no such proceedings by or against the Company have been
threatened.
  Item
4. Submission of Matters to a Vote of Security Holders
  None.
  24


Part
II




Item
5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer
Purchases of Equity Securities Market Price of and Dividends on the Registrants
Common Equity and Related Stockholder Matters





Market
Information





Our
common stock is traded on the NASD's Over-the-Counter Bulletin Board under the
symbol "KURU OB" since November 6, 2008.





The
following table sets forth, for the quarters indicated, the range of closing
high and low bid prices of our common stock as reported by the NASD
Over-the-Counter Bulletin Board, as adjusted for all previously effected stock
splits.





The
quotations reflect inter-dealer prices without retail mark-up, mark-down or
commission, and may not represent actual transactions.





Quarter Ended:
                  
                  High
                  
                  
                  LowOctober
      31, 2007
                  
                  
                  1.01
                  
                  
                  
                  0.65January
      31, 2008
                  
                  
                  1.35
                  
                  
                  
                  1.01April
      30, 2008
                  
                  
                  1.01
                  
                  
                  
                  0.8July
      31, 2008
                  
                  
                  1.01
                  
                  
                  
                  0.8October
      31, 2008
                  
                  
                  3.90
                  
                  
                  
                  3.9January
      31, 2009
                  
                  
                  1.3
                  
                  
                  
                  1.3March
      20, 2009
                  
                  
                  1.3
                  
                  
                  
                  1.3





*The
reverse merger occurred on September 16, 2008 and there was no or minimal
trading of our common stock prior to the reverse merger.





Holders





As of
March 30, 2009, we had 13 stockholders of record  holding  an
aggregate of 25,000,000 issued and outstanding shares of our common
stock.





Dividends





On
December 31, 2007, Zhonghe distributed RMB 49,140,000,or approximately US $5.98
million common stock dividend to its shareholders. During fiscal year ended
December 31, 2008, the Company did not distribute any stock or cash dividends
and the Company does not anticipate to distribute any stock or cash dividends on
our common stock in the foreseeable future.




Item
6. Selected Financial Data




You
should read the following selected consolidated financial data in conjunction
with “Management's Discussion and Analysis of Financial Condition and Results of
Operations,” the financial statements and related notes, and the other financial
information included in this annual report on Form 10-K.




The year ended
                    Dec. 31, 2008
                  
                  
                  The year ended
                    Dec. 31, 2007
                  
                  
                  The year ended
                    Dec. 31, 2006Consolidated Statement of
      Operations
                  
                  ($)
                  
                  
                  ($)
                  
                  
                  ($)(audited)
                  
                  
                  (audited)
                  
                  
                  (audited)Sales
      (net of discounts, returns and allowances)
                  
                  
                  11,622,503
                  
                  
                  
                  7,471,326
                  
                  
                  
                  4,740,787Other
      salesCost
      of sales
                  
                  
                  (3,410,891
                  )
                  
                  
                  (3,134,608
                  )
                  
                  
                  (2,233,287
                  )Gross
      profit
                  
                  
                  8,211,612
                  
                  
                  
                  4,336,718
                  
                  
                  
                  2,507,500Selling
      expenses
                  
                  
                  (687,949
                  )
                  
                  
                  (1,416,469
                  )
                  
                  
                  (334,933
                  )General
      and administrative expenses
                  
                  
                  (1,456,340
                  )
                  
                  
                  (1,243,259
                  )
                  
                  
                  (907,052
                  )Unusual
      charge-Make good provision
                  
                  
                  (1,300,000
                  )Income
      from operations
                  
                  
                  4,767,323
                  
                  
                  
                  1,676,990
                  
                  
                  
                  1,265,515Interest
      expense, net
                  
                  
                  (495,557
                  )
                  
                  
                  (543,400
                  )
                  
                  
                  (232,536
                  )Other
      income
                  
                  
                  2,670,040
                  
                  
                  
                  70,077
                  
                  
                  
                  67,533Income
      before taxation
                  
                  
                  6,941,806
                  
                  
                  
                  1,203,667
                  
                  
                  
                  1,100,512Income
      tax
                  
                  
                  (907,439
                  )
                  
                  
                  56,796
                  
                  
                  
                  (63,828
                  )Minority
      interest
                  
                  
                  (64,658
                  )
                  
                  
                  (11,095
                  )
                  
                  
                  (9,136
                  )Net
      income
                  
                  
                  5,969,709
                  
                  
                  
                  1,249,368
                  
                  
                  
                  1,027,548Basic
      earnings per share
                  
                  
                  0.24
                  
                  
                  
                  0.05
                  
                  
                  
                  0.04Diluted
      earnings per share
                  
                  
                  0.24
                  
                  
                  
                  0.05
                  
                  
                  
                  0.04


25





As of
                    
                    
                    As of
                    
                    
                    As
      ofDec. 31, 2008
                    
                    
                    Dec. 31, 2007
                    
                    
                    Dec. 31, 2006Consolidated Balance Sheets
                    
                    ($)
                    
                    
                    ($)
                    
                    
                    ($)(audited)
                    
                    
                    (audited)
                    
                    
                    (audited)Current
      Assets
                    
                    
                    14,624,269
                    
                    
                    
                    6,369,578
                    
                    
                    
                    15,440,032Total
      Assets
                    
                    
                    28,641,878
                    
                    
                    
                    19,762,486
                    
                    
                    
                    18,790,635Current
      Liabilities
                    
                    
                    3,302,601
                    
                    
                    
                    3,490,290
                    
                    
                    
                    6,356,766Total
      Liabilities
                    
                    
                    9,839,006
                    
                    
                    
                    9,282,765
                    
                    
                    
                    6,367,825Minority
      Interest
                    
                    
                    169,145
                    
                    
                    
                    103,365
                    
                    
                    
                    109,498Total
      Stockholders’ Equity
                    
                    
                    18,633,727
                    
                    
                    
                    10,376,356
                    
                    
                    
                    12,313,312




Item
7 Management’s Discussion and Analysis of Financial Conditions and Results of
Operations





Introduction





The
following discussion of the results of our operations and financial condition
should be read in conjunction with consolidated financial statements of the
Company and the related notes thereto appearing elsewhere herein. The following
discussion includes forward-looking statements regarding business prospects,
financial trends and accounting policies that may affect our future operating
results, financial position and cash flows. We use words such as “will,’’
“anticipate,’’ “estimate,’’ “expect,’’ “project,’’ “intend,’’ “plan,’’
“believe,’’ “forecast’’ and other words and terms of similar meaning in
connection with any discussion of future operating or financial performance.
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.





MD&A
is organized as follows:





Overview  This
section provides a general description of our corporate structure and the scope
of our operation.





Critical Accounting Policies
and Estimates  This section identifies those accounting
policies and accounting estimates that are considered important to the Company’s
results of operations and financial condition, require significant judgment and
require estimates on the part of management in application.





Results of
Operations  This section provides an analysis of Kun Run’s
results of operations for the two years ending December 31, 2008 and
2007.





Liquidity and Capital
Resources  This section provides an analysis of Kun Run’s cash
flows for the two years ended December 31, 2008 and 2007, as well as a
discussion of the Company’s outstanding debt and commitments that existed as of
December 31, 2008.





Off-Balance Sheet
Arrangements  This section discloses any off-balance sheet
arrangements that have or are reasonably likely to have a current or future
effect on Camelot’s financial condition.





Recently issued accounting
pronouncements  This section provides a quick look at the new
guidance affected the accounting issued by the Financial Accounting Standard
Board (“FASB”).





Overview





We are
engaged, through Hainan Zhonghe Pharmaceutical Co., Ltd., our China based
subsidiary (99.12% ownership), in the development, manufacture, marketing and
sale of prescription polypeptide drugs. Our principal products are polypeptide
derivatives. Our products are sold primarily in China through Chinese domestic
pharmaceutical distributors licensed by the Chinese government. Our
manufacturing and sales facilities are located in the City of Haikou, Hainan
Province.


26




Critical Accounting Policies
and Estimates





Basis of
presentation





The
accompanying financial statements of the Company have been prepared in
accordance with generally accepted accounting principles in the United States of
America.





Use of
estimates





In
preparing financial statements in conformity with accounting principles
generally accepted in the United States of America, management makes estimates
and assumptions that affect the reported amounts of assets and liabilities and
disclosures of contingent assets and liabilities at the dates of the financial
statements, as well as the reported amounts of revenues and expenses during the
reporting periods. These accounts and estimates include, but are not limited to,
the valuation of accounts receivable, inventories, deferred income taxes and the
estimation on useful lives and residual values of property, plant and equipment
and pharmaceutical licenses and patents. Actual results could differ from those
estimates.





Concentrations of credit
risk





Financial
instruments that potentially subject the Company to significant concentrations
of credit risk consist principally of cash and cash equivalents and trade
receivables. As of December 31, 2008 and 2007, substantially all of the
Company’s cash and cash equivalents were held by major financial institutions
located in the People of Republic of China (the "PRC"), which management
believes are of high credit quality. With respect to trade receivables, the
Company extends credit based on an evaluation of the customer’s financial
condition. The Company generally does not require collateral for trade
receivables and maintains an allowance for doubtful accounts of trade
receivables.





During
the reporting periods, customers representing 10% or more of the Company’s sales
are :





Year ended December 31,2008
                          
                          
                          2007Beijing
      Xingshengyuan Pharmaceutical Ltd.
                          956,585
                          
                          
                          2,276,113





Details
of customers for 10% or more of the Company's trade receivables are
:





Year ended December 31,2008
                      
                      
                      2007Beijing
      Xingshengyuan Pharmaceutical Ltd.
                      
                      $
                      1,240,606
                      
                      
                      $
                      2,053,003Hainan
      Heyi Pharmaceutical Ltd.
                      
                      
                      714,549
                      
                      
                      
                      68,950$
                      1,955,155
                      
                      
                      $
                      2,121,953





Cash and cash
equivalents





Cash and
cash equivalents include all cash, deposits in banks and other highly liquid
investments with initial maturities of three months or less to be cash
equivalents. As of December 31, 2008 and 2007, almost all the cash and cash
equivalents were denominated in Renminbi (“RMB”) and were placed with banks in
the PRC. They are not freely convertible into foreign currencies and the
remittance of these funds out of the PRC is subject to exchange control
restrictions imposed by the PRC government. The remaining insignificant balance
of cash and cash equivalents were denominated in Hong Kong dollars and US
dollars.





Allowance for doubtful
debts





The
Company establishes an allowance for doubtful debts based on management’s
assessment of the ability to collect trade receivables. A considerable amount of
judgment is required in assessing the amount of the allowance. The Company
considers the historical level of credit losses and applies percentages to aged
receivable categories. The Company makes judgments about the creditworthiness of
each customer based on ongoing credit evaluations, and monitors current economic
trends that might impact the level of credit losses in the future. If the
financial condition of the customers were to deteriorate, resulting in their
inability to make payments, a larger allowance may be required.


27




Based on
the above assessment, during the reporting periods, the management establishes
the following rates of general provision provided on gross amount of trade
receivables:


RateAged
      within 1 year
                  
                  
                  10
                  %Aged
      over 1 year but within 2 years
                  
                  
                  40
                  %Aged
      over 2 years but within 3 years
                  
                  
                  80
                  %More
      than 3 years
                  
                  
                  100
                  %





Additional
specific provision is made against trade receivables whenever they are
considered to be doubtful.





Bad debts
are fully written off when identified or the trade receivable has aged more than
3 years. The Company extends unsecured credit to customers ranging from three to
six months in the normal course of business. The Company does not accrue
interest on trade accounts receivable.





Provision
for doubtful debts of $281,698 and $322,348 are included in selling expenses for
two years ended December 31, 2008 and 2007, respectively.





Inventories





Inventories
are stated at the lower of cost or market value. Cost is determined on weighted
average basis and includes all expenditures incurred in bringing the goods to
the point of sale and putting them in a saleable condition. In assessing the
ultimate realization of inventories, the management makes judgments as to future
demand requirements compared to current or committed inventory levels. The
Company’s reserve requirements generally increase with its projected demand
requirements; decrease due to market conditions, product life cycle changes. The
Company estimates the demand requirements based on market conditions, forecasts
prepared by its customers, sales contracts and orders in hand. Inventory that is
obsolete or expired is written down to its market value if lower than cost.
Inventory quantities are regularly reviewed and provisions for excess or
obsolete inventory are recorded primarily based on the Company’s forecast of
future demand and market conditions. During the reporting periods, all of the
Company’s drug products were saleable with high profit margins; the Company did
not make any allowance for slow-moving or defective inventories.





Property, plant and
equipment





Property,
plant and equipment are stated at cost less accumulated depreciation. Cost
represents the purchase price of the asset and other costs incurred to bring the
asset into its existing use.





Depreciation
is provided on straight-line basis over their estimated useful lives. The
principal depreciation rates are as follows:


Annual rate
                    
                    
                    Residual valueBuildings
                    
                    
                    2.5
      - 5
                    %
                    
                    
                    5
                    %Plant
      and machinery
                    
                    
                    10
      - 20
                    %
                    
                    
                    3
                    %Motor
      vehicles
                    
                    
                    14
      - 20
                    %
                    
                    
                    5
                    %Furniture,
      fixtures and equipment
                    
                    
                    20
                    %
                    
                    
                    3
                    %Leasehold
      improvements
                    
                    
                    20
                    %
                    
                    Nil





Construction
in progress mainly represents expenditures in respect of Zhonghe’s new offices
and factories under construction. All direct costs relating to the acquisition
or construction of Zhonghe’s new office and factories are capitalized as
construction in progress. No depreciation is provided in respect of construction
in progress.





Maintenance
or repairs are charged to expense as incurred. Upon sale or disposition, the
applicable amounts of asset cost and accumulated depreciation are removed from
the accounts and the net amount less proceeds from disposal is charged or
credited to income.





Pharmaceutical
license





Pharmaceutical
licenses are stated at cost less accumulated amortization. Amortization is
provided on a straight-line basis over their useful lives of 5
years.





Land use
rights





Land use
rights are stated at cost less accumulated amortization. Amortization is
provided using the straight-line method over the terms of the lease of 55 and 56
years obtained from the relevant PRC land authority.


28




Impairment of long-lived
assets





Long-lived
assets are tested for impairment in accordance with SFAS No.144. The Company
periodically evaluates potential impairment whenever events or changes in
circumstances indicate that the carrying amount of the assets may not be
recoverable. The Company recognizes impairment of long-lived assets in the event
that the net book values of such assets exceed the future undiscounted cash
flows attributable to such assets. During the reporting periods, the Company has
not identified any indicators that would require testing for
impairment.





Minority
interests





Minority
interests resulted from the consolidation of 99.12% owned subsidiary,
Zhonghe.





Government subsidy
income





Government
subsidy income was $31,003 for the year ended December 31, 2008 (2007: $22,225).
It mainly consisted of receipt of funds granted to subsidize the research and
development activities in relation to the Zhonghe’s qualification of new and
high technology. The amount is un-conditional, non-refundable and without any
restrictions on usage at the time of grant to and receipt by the Company. Such
grant is recognized as income for the year.





Revenue
recognition





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





Advertising and research and
development expenses





Advertising
and research and development expenses are charged to expense as
incurred.





Research
and development expenses consist primarily of remuneration for research and
development staff and material costs for research and development.





Cost of
sales





Cost of
sales consists primarily of material costs, freight charges, purchasing and
receiving costs, inspection costs, wages, employee compensation, depreciation
and related costs, which are directly attributable to the production of
products. Write-down of inventory to lower of cost or market is also recorded in
cost of sales.





Selling
expenses





Selling
expenses are mainly consists of advertising, commission, entertainment,
salaries, transportation cost and traveling expense which are incurred during
the selling activities.





General and administrative
expenses





General
and administrative expenses consist of rent paid, office expenses, staff
welfare, consumables, labor protection and salaries and wage which are incurred
at the administrative level and exchange difference.





Stock-based
compensation





The
Company adopted the provisions of SFAS 123R, which requires the use of the fair
value method of accounting for share-based compensation. Under the fair value
based method, compensation cost related to employee stock options or similar
equity instruments which are equity-classified awards, is measured at the grant
date based on the value of the award and is recognized over the requisite
service period, which is usually the vesting period. SFAS 123R also requires
measurement of cost of a liability-classified award based on its current fair
value.





Income
taxes





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





Dividends





Dividends
are recorded in the Company’s financial statements in the period in which they
are declared.


29




Comprehensive
income





The
Company has adopted SFAS No. 130 “Reporting Comprehensive Income”, which
establishes standards for reporting and display of comprehensive income, its
components and accumulated balances. Components of comprehensive income include
net income and foreign currency translation adjustments.





Foreign currency
translation





The
functional currency of the Company is RMB and RMB is not freely convertible into
foreign currencies. The Company maintains its financial statements in the
functional currency. Monetary assets and liabilities denominated in currencies
other than the functional currency are translated into the functional currency
at rates of exchange prevailing at the balance sheet date. Transactions
denominated in currencies other than the functional currency are translated into
the functional currency at the exchanges rates prevailing at the dates of the
transaction. Exchange gains or losses arising from foreign currency transactions
are included in the determination of net income for the respective
periods.





For
financial reporting purposes, the financial statements of the Company which are
prepared using the functional currency have been translated into United States
dollars. Assets and liabilities are translated at the exchange rates at the
balance sheet dates and revenue and expenses are translated at the average
exchange rates and stockholders’ equity is translated at historical exchange
rates. Any translation adjustments resulting are not included in determining net
income but are included in foreign exchange adjustment to other comprehensive
income, a component of stockholders’ equity.  The exchange rates in
effect at December 31, 2008 and 2007 were RMB1 for $0.1467 and $0.1371
respectively. There is no significant fluctuation in exchange rate for the
conversion of RMB to US dollars after the balance sheet date.





Basic and diluted earnings
per share





The
Company reports basic earnings per share in accordance with SFAS No. 128
“Earnings Per Share”. Basic earnings per share are computed using the weighted
average number of shares outstanding during the periods presented. The weighted
average number of shares of the Company represents the common stock outstanding
during the reporting periods.





During
the reporting periods, the Company had no dilutive instruments. Accordingly, the
basic and diluted earnings per share are the same.





Fair value of financial
instruments





Statement
of Financial Accounting Standards No. 107 “Disclosures About Fair Value of
Financial Instruments” (“SFAS 107”) requires the disclosure of the estimated
fair value of financial instruments including those financial instruments for
which the Financial Accounting Standards No. 159 fair value option was not
elected. Except for secured borrowings disclosed as below, the carrying amounts
of the financial assets and liabilities approximate to their fair value due to
short maturities or the applicable interest rates approximate current market
rates:-





As of December 31, 2008
                    
                    
                    As of December 31, 2007Carrying
                    
                    
                    
                    
                    
                    Carryingamount
                    
                    
                    Fair value
                    
                    
                    amount
                    
                    
                    Fair valueSecured
      borrowings
                    
                    $
                    6,528,150
                    
                    
                    $
                    6,407,755
                    
                    
                    $
                    7,163,475
                    
                    
                    $
                    7,108,459





The fair
values of secured borrowings are estimated using discounted cash flow analysis,
based on the Company’s current incremental borrowing rates for similar types of
borrowing arrangements.


30




Results
of Operations





Fiscal
Year 2008 Compared to Fiscal Year 2007





Year ended December 31,2008
                            
                            
                            % as of total
                              sales
                            
                            
                            2007
                            
                            
                            % as of total
                              sales
                            
                            
                            Variance
                              %REVENUES
                            
                            $
                            11,622,503
                            
                            
                            
                            100
                            %
                            
                            $
                            7,471,326
                            
                            
                            
                            100
                            %
                            
                            
                            56
                            %LESS:
      COST OF SALES
                            
                            
                            (3,410,891
                            )
                            
                            
                            29
                            %
                            
                            
                            (3,134,608
                            )
                            
                            
                            42
                            %
                            
                            
                            9
                            %GROSS
      PROFIT
                            
                            
                            8,211,612
                            
                            
                            
                            71
                            %
                            
                            
                            4,336,718
                            
                            
                            
                            58
                            %
                            
                            
                            89
                            %GROSS
      PROFIT RATIO
                            
                            
                            71
                            %
                            
                            
                            
                            
                            
                            
                            58
                            %
                            
                            
                            
                            
                            
                            
                            13
                            %OPERATING
      EXPENSESSELLING
      EXPENSES
                            
                            
                            (687,949
                            )
                            
                            
                            6
                            %
                            
                            
                            (1,416,469
                            )
                            
                            
                            19
                            %
                            
                            
                            -51
                            %ADMINISTRATIVE
      EXPENSES
                            
                            
                            (1,184,864
                            )
                            
                            
                            10
                            %
                            
                            
                            (967,121
                            )
                            
                            
                            13
                            %
                            
                            
                            23
                            %RESEARCH
      AND DEVELOPMENT COSTS
                            
                            
                            (271,476
                            )
                            
                            
                            2
                            %
                            
                            
                            (276,138
                            )
                            
                            
                            4
                            %
                            
                            
                            -2
                            %UNUSUAL
      CHARGE-MAKE GOOD PROVISION
                            
                            
                            (1,300,000
                            )
                            
                            
                            11
                            %
                            
                            
                            -
                            
                            
                            
                            0
                            %
                            
                            
                            100
                            %INCOME
      FROM OPERATIONS
                            
                            
                            4,767,323
                            
                            
                            
                            
                            
                            
                            
                            1,676,990
                            
                            
                            
                            
                            
                            
                            
                            184
                            %SUBSIDY
      INCOME
                            
                            
                            31,003
                            
                            
                            
                            0
                            %
                            
                            
                            22,225
                            
                            
                            
                            0
                            %
                            
                            
                            39
                            %INTEREST
      INCOME
                            
                            
                            50,438
                            
                            
                            
                            0
                            %
                            
                            $
                            2,741
                            
                            
                            
                            0
                            %GAIN
      ON DISPOSAL OF PROPERTY, PLANT AND EQUIPMENT
                            
                            
                            2,416,110
                            
                            
                            
                            21
                            %
                            
                            
                            -
                            
                            
                            
                            0
                            %
                            
                            
                            100
                            %OTHER
      INCOME
                            
                            
                            222,927
                            
                            
                            
                            2
                            %
                            
                            
                            47,852
                            
                            
                            
                            1
                            %
                            
                            
                            366
                            %FINANCE
      COSTS
                            
                            
                            (545,995
                            )
                            
                            
                            5
                            %
                            
                            
                            (546,141
                            )
                            
                            
                            -7
                            %
                            
                            
                            0
                            %PROFITS
      BEFORE TAXATION
                            
                            
                            6,941,806
                            
                            
                            
                            60
                            %
                            
                            
                            1,203,667
                            
                            
                            
                            16
                            %
                            
                            
                            477
                            %INCOME
      TAX
                            
                            
                            (907,439
                            )
                            
                            
                            8
                            %
                            
                            
                            56,796
                            
                            
                            
                            1
                            %MINORITY
      INTEREST SHARE OF PROFITS
                            
                            
                            (64,658
                            )
                            
                            
                            1
                            %
                            
                            
                            (11,095
                            )
                            
                            
                            0
                            %NET
      INCOME
                            
                            
                            5,969,709
                            
                            
                            
                            51
                            %
                            
                            
                            1,249,368
                            
                            
                            
                            17
                            %
                            
                            
                            378
                            %OTHER
      COMPREHENSIVE INCOMEFOREIGN
      CURRENCY TRANSACTION ADJUSTMENTS
                            
                            
                            858,953
                            
                            
                            
                            7
                            %
                            
                            
                            115,366
                            
                            
                            
                            2
                            %TOTAL
      COMPREHENSIVE INCOME
                            
                            $
                            6,828,662
                            
                            
                            
                            59
                            %
                            
                            $
                            1,364,734
                            
                            
                            
                            18
                            %EARNINGS
      PER SHARE: BASIC AND DILUTED
                            
                            $
                            0.24
                            
                            
                            
                            
                            
                            
                            $
                            0.05
                            
                            
                            
                            
                            
                            
                            
                            380
                            %WEIGHTED
      AVERAGE NUMBER OF SHARES OUTSTANDING: BASIC AND DILUTED
                            
                            
                            24,467,808
                            
                            
                            
                            
                            
                            
                            
                            24,250,000


31




Revenues





Year ended December 31,2008
                  
                  
                  As of total
                    sales %
                  
                  
                  2007
                  
                  
                  As of total
                    sales %
                  
                  
                  Variance
                    %REVENUES
                  
                  
                  11,622,503
                  
                  
                  
                  100
                  %
                  
                  
                  7,471,326
                  
                  
                  
                  100
                  %
                  
                  
                  56
                  %COST
      OF SALES
                  
                  
                  (3,410,891
                  )
                  
                  
                  -29
                  %
                  
                  
                  (3,134,608
                  )
                  
                  
                  -42
                  %
                  
                  
                  9
                  %GROSS
      PROFIT
                  
                  
                  8,211,612
                  
                  
                  
                  71
                  %
                  
                  
                  4,336,718
                  
                  
                  
                  58
                  %GROSS
      PROFIT  RATIO
                  
                  
                  71
                  %
                  
                  
                  
                  
                  
                  
                  58
                  %
                  
                  
                  
                  
                  
                  
                  13
                  %





Revenues
for the year ended December 31, 2008 were $11.6 million, an increase of $4.1
million, or 56% over revenues for the year ended December 31, 2007. Revenues by
product categories were as follows:





Product
                    
                    Year ended December 31, 2008
                    
                    
                    Year ended December 31,
                      2007
                    
                    
                    VarianceAmount
                    
                    
                    %
                    
                    
                    Amount
                    
                    
                    %
                    
                    
                    %(USD)
                    
                    
                    as of total
                      sales
                    
                    
                    (USD)
                    
                    
                    as of total
                      salesTP-5
      ProductsTP-5
      powder for injection (1mg)
                    
                    
                    1,940,855
                    
                    
                    
                    17
                    %
                    
                    
                    2,267,669
                    
                    
                    
                    30
                    %
                    
                    
                    -14
                    %TP-5
      powder for injection (10mg)
                    
                    
                    681,321
                    
                    
                    
                    6
                    %
                    
                    
                    1,126,567
                    
                    
                    
                    15
                    %
                    
                    
                    -40
                    %TP-5
      pre-filled injection (1ml:1mg)
                    
                    
                    1,185,292
                    
                    
                    
                    10
                    %
                    
                    
                    973,066
                    
                    
                    
                    13
                    %
                    
                    
                    22
                    %TP-5
      pre-filled injection (1ml:10mg)
                    
                    
                    2,364,188
                    
                    
                    
                    20
                    %
                    
                    
                    1,001,990
                    
                    
                    
                    14
                    %
                    
                    
                    136
                    %Sub-total
      ( TP-5 products)
                    
                    
                    6,171,656
                    
                    
                    
                    53
                    %
                    
                    
                    5,369,292
                    
                    
                    
                    72
                    %
                    
                    
                    15
                    %Other
      productsSS
      for injection 3mg
                    
                    
                    961,266
                    
                    
                    
                    8
                    %
                    
                    
                    692,888
                    
                    
                    
                    9
                    %
                    
                    
                    39
                    %SS
      for injection 0.25mg
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    -13,011
                    
                    
                    
                    0
                    %
                    
                    
                    -100
                    %Thymosin
      á1 for injection 1.6mg
                    
                    
                    3,247,576
                    
                    
                    
                    28
                    %
                    
                    
                    936,780
                    
                    
                    
                    13
                    %
                    
                    
                    247
                    %DDAVP
      Injection 1ml:4ug
                    
                    
                    800,680
                    
                    
                    
                    7
                    %
                    
                    
                    309,062
                    
                    
                    
                    4
                    %
                    
                    
                    159
                    %DDAVP
      Injection 1ml:15ug
                    
                    
                    330,934
                    
                    
                    
                    3
                    %
                    
                    
                    136,701
                    
                    
                    
                    2
                    %
                    
                    
                    142
                    %Granisetron
      Hydrochloride Injection 3ml:3mg
                    
                    
                    82,147
                    
                    
                    
                    1
                    %
                    
                    
                    17,021
                    
                    
                    
                    0
                    %
                    
                    
                    383
                    %Ozagrel
      Sodium for Injection 80mg
                    
                    
                    23,807
                    
                    
                    
                    0
                    %
                    
                    
                    22,593
                    
                    
                    
                    0
                    %
                    
                    
                    5
                    %Others
                    
                    
                    4,437
                    
                    
                    
                    0
                    %
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    100
                    %In
      Total
                    
                    
                    11,622,503
                    
                    
                    
                    100
                    %
                    
                    
                    7,471,326
                    
                    
                    
                    100
                    %
                    
                    
                    56
                    %





TP-5 is
our major product, accounting for 53% of total revenues and contributed $6.2
million of sales for the year ended December 31, 2008, an increase of $802,364,
or 15%, as compared to 2007. Since the Company possesses a solution patent for
TP-5 pre-filled injections, we enjoyed a stable selling price and strong growth
in revenue for TP-5 pre-filled injections, contributing to the total increase in
TP-5 as a whole.





Within
the TP-5 product category, the total revenue from TP-5 powder for injection
decreased to $2.6 million in 2008 from $3.4 million in 2007, representing a 23%
decrease. In contrast, the sales of other TP5 products, TP-5 pre-filled
injections, increased to $3.5 million during 2008 from approximately $2.0
million during 2007, representing an 80% increase. These contradictory results
are primarily due to the increased market preference to TP-5 pre-filled
injection products because they are easier to use and the dosage is more
precise. The revenue decrease from TP-5 powder products was mainly due to a
lower selling price and the market erosion related to TP-5 pre-filled
injections.





Sales of
Somatostatin for injection (3mg) accounted for 8% of total sales in 2008,
increasing 39% to $961,266 in 2008 from $692,888 in 2007. This was a result of
increased sales due to increased brand recognition.





Thymosin
Alpha 1 injection (1.6mg) revenues have grown steadily since it was introduced
to the market in 2005. The sales volume of Alpha 1 injection significantly
increased in 2008. Additionally, the Company strengthened scholarly promotion
for Alpha 1 injections in 2008 and benefited from the fact that there were few
competitors in this drug category. Meanwhile, our Thymosin Alpha 1 for injection
(1.6mg) became very popular in the market and a strong market demand on Thymosin
Alpha 1 injection (1.6mg) made it the best selling product in 2008, which
contributed $3.2 million in revenue (28% of the total sales) for the year ended
December 31, 2008, representing a 247% increase from 2007.




Desmopressin
acetate injection (DDAVP) also experienced significant sales growth to
approximately $1.1 million for 2008 from $445,763 in 2007, representing a 154%
increase.




The TP-5
market is mature and is highly competitive while the markets for Somatostatin,
DDAVP and Thymosin á1 are still developing with greater market potential and
less pricing pressure. Thus, the Company’s product portfolio has broadened from
one single flagship product, TP-5, to four peptide products that make and will
make major revenue contributions. The Company expects its current product mix to
be sustained in the foreseeable future as brand recognition and product efficacy
drive product acceptance in the market.


32




Cost of Goods Sold and Gross
Profit





Cost of
revenues for year ended December 31, 2008 was approximately $3.4 million,
compared with $3.1 million for the same period of 2007, an increase of 9%. The
gross margin for year ended December 31, 2008 was 71%, increasing from 58% for
the same period of 2007.





The
increase in cost of revenues was mainly due to the increase in revenues. As a
percentage of revenues, the cost of goods sold disproportionately decreased to
29% for the year ended December 31, 2008 from 42% for 2007. This was mainly
attributable to the following factors:





1.
            We became a public company with
      stock trading in the United States equity markets in early 2008. This has
      strengthened our commitment to utilizing effective costs control systems
      and efficient production technology. We instituted strict standards in the
      selection of raw materials that are of high quality. We have reduced the
      raw material wastage rate and brought down the cost of goods sold in 2008.
      These cost controls and production technologies are expected to remain
      consistent in the future.


2.
            We have increased sales of
      higher-margin products including TP-5 pre-filled injection, Thymosin alpha
      1 and DDAVP.


3.
            The product output for the year
      2008 was twice the volume for 2007 and the fixed cost was approximately
      the same for both years, which caused product unit cost to decrease in
      2008.





Operating
Expenses





Year ended December 31,2008
                  
                  
                  %
                  
                  
                  2007
                  
                  
                  %
                  
                  
                  Varianceas of total
                    sales
                  
                  
                  
                  
                  
                  As of total
                    sales
                  
                  
                  %OPERATING
      EXPENSESSELLING
      EXPENSES
                  
                  
                  687,949
                  
                  
                  
                  6
                  %
                  
                  
                  1,416,469
                  
                  
                  
                  19
                  %
                  
                  
                  -51
                  %ADMINISTRATIVE
      EXPENSES
                  
                  
                  1,184,864
                  
                  
                  
                  10
                  %
                  
                  
                  967,121
                  
                  
                  
                  13
                  %
                  
                  
                  23
                  %RESEARCH
      AND DEVELOPMENT COSTS
                  
                  
                  271,476
                  
                  
                  
                  2
                  %
                  
                  
                  276,138
                  
                  
                  
                  4
                  %
                  
                  
                  2
                  %UNUSUAL
      CHARGE-MAKE GOOD PROVISION
                  
                  
                  1,300,000
                  
                  
                  
                  11
                  %
                  
                  
                  -
                  
                  
                  
                  0
                  
                  
                  
                  100
                  %3,444,289
                  
                  
                  
                  29.
                  %
                  
                  
                  2,659,728
                  
                  
                  
                  36
                  %





Selling
Expenses





Year ended December 31,
                    
                    
                    Variance2008
                    
                    
                    2007
                    
                    
                    Amount
                    
                    
                    %SELLING
      EXPENSESMarketing
      and Advertising
                    
                    
                    101,562
                    
                    
                    
                    537,506
                    
                    
                    
                    (435,944
                    )
                    
                    
                    -81
                    %Traveling
      and Transportation
                    
                    
                    79,550
                    
                    
                    
                    246,837
                    
                    
                    
                    (167,287
                    )
                    
                    
                    -68
                    %Training
                    
                    
                    -
                    
                    
                    
                    69,640
                    
                    
                    
                    (69,640
                    )
                    
                    
                    -100
                    %Provision
      for doubtful debts
                    
                    
                    281,698
                    
                    
                    
                    322,348
                    
                    
                    
                    (40,650
                    )
                    
                    
                    -13
                    %Other
      Selling Expenses
                    
                    
                    225,139
                    
                    
                    
                    240,138
                    
                    
                    
                    (14,999
                    )
                    
                    
                    -6
                    %687,949
                    
                    
                    
                    1,416,469
                    
                    
                    
                    (728,520
                    )
                    
                    
                    -51
                    %





Selling
expenses stood at $687,949, or 6% of total sales, in the year ended December 31,
2008, decreasing 51% from $1.4 million for 2007. The drop was mainly due to the
Company’s increased marketing budget in 2007 in order to enlarge sales and
market share. Not only were marketing and advertising costs higher, but also
traveling and commuting costs. These expenditures fell back to a more normal
level in 2008 as our brands reached a more mature position and we did not engage
in extra promotions. During 2007, the Company also implemented a training
program for the sales and marketing staff. These activities did not occur in
2008, which lowered expenses in 2008.


33





Administrative
Expenses





Our
administrative expenses were approximately $1.2 million (10% of total sales) and
$1.0 million (13% of total sales) for the years ended December 31, 2008 and
2007, respectively. The details of general and administrative expenses were as
follows:





Year ended December 31,
                  
                  
                  Variance2008
                  
                  
                  2007
                  
                  
                  Amount
                  
                  
                  %ADMINISTRATIVE
      EXPENSESConsultancy
      fee
                  
                  
                  377,996
                  
                  
                  
                  21,754
                  
                  
                  
                  356,242
                  
                  
                  
                  1638
                  %Audit
      fee
                  
                  
                  83,203
                  
                  
                  
                  37,447
                  
                  
                  
                  45,757
                  
                  
                  
                  122
                  %Traveling
      and Transportation
                  
                  
                  36,654
                  
                  
                  
                  195,462
                  
                  
                  
                  (158,808
                  )
                  
                  
                  -81
                  %Entertainment
                  
                  
                  12,311
                  
                  
                  
                  61,914
                  
                  
                  
                  (49,603
                  )
                  
                  
                  -80
                  %Office
      supplies
                  
                  
                  15,210
                  
                  
                  
                  90,287
                  
                  
                  
                  (75,077
                  )
                  
                  
                  -83
                  %Depreciation
                  
                  
                  124,340
                  
                  
                  
                  40,042
                  
                  
                  
                  84,298
                  
                  
                  
                  211
                  %Environmental
      charges
                  
                  
                  -
                  
                  
                  
                  54,861
                  
                  
                  
                  (54,861
                  )
                  
                  
                  -100
                  %Others
                  
                  
                  535,150
                  
                  
                  
                  465,354
                  
                  
                  
                  69,795
                  
                  
                  
                  15
                  %1,184,864
                  
                  
                  
                  967,121
                  
                  
                  
                  217,743
                  
                  
                  
                  23
                  %





1)
            Consultancy fees paid under the
      Stock Purchase Agreement  were $317,069, the primary
      contributing factor to the increase in our administrative expenses in 2008
      as compared to 2007.





2)
            Traveling and transportation and
      entertainment costs decreased by $158,808 (81%) and $49,603 (80%),
      respectively. Expenses for office supplies decreased by $75,077, or 83%,
      as compared to 2007, as the results of increased cost controls on general
      and administrative procedures in
2008.





Research and Development
Costs





Research
and development expenses were $271,476 in 2008, representing a slight decrease
as compared to $276,138 in 2007. Research and development costs were mainly cost
for clinical analysis, registration and consumption of test specimens for our
new products.





Unusual Charge-Make Good
Provision





In
connection with the Stock Purchase Agreement dated August 15 2008, Mr. Xueyun
Cui, our Chairman, has agreed to place into escrow an aggregate of 1,000,000
shares of common stock owned by him with Trixy Sasyniuk-Walt, one of the
shareholders of the Company. The Escrow Shares were pledged to secure the
Company’s commitment to achieve the 2008 Guaranteed After-Tax Net Income
(“ATNI”).





The
release of Escrow Shares to Trixy Sasyniuk-Walt or Mr. Cui will be made on or
before March 31, 2009 with reference to the 2008 Guaranteed ATNI as
follows:







(a)
            If the 2008 Guaranteed ATNI is
      equal to or greater than $7,000,000, then all of the Escrow Shares shall
      be returned to Mr. Cui.





(b)
            If the 2008 Guaranteed ATNI is
      less than $7,000,000, but equal to or greater than $6,000,000, then 50% of
      the Escrow Shares shall be released to Trixy Sasyniuk-Walt and 50%
      returned to Mr. Cui.





(c)
            If the 2008 Guaranteed ATNI is
      less than $6,000,000, but equal to or greater than $5,000,000, then 75% of
      the Escrow Shares shall be released to Trixy Sasyniuk-Walt and 25%
      returned to Mr. Cui.





(d)
            If the 2008 Guaranteed ATNI is
      less than $5,000,000, then all of the Escrow Shares shall be released to
      Trixy Sasyniuk-Walt.





For the
purpose of determining whether or not the 2008 Guaranteed ATNI threshold has
been met, the compensation charges from the release of any shares to Mr. Cui and
payment to Halter Capital Corp. ("Halter") under the term of the Consulting
Agreement dated August 15, 2008 will not be deemed an expense to the
Company.





Excluding
the compensation charges of $1,300,000 and consultancy fee of $317,069 to
Halter, the net income is $7,586,778 for the fiscal year ended December 31, 2008
and thus the Company has achieved the 2008 Guaranteed ATNI.





Following
the achievement of the 2008 performance criteria, the Escrow Shares to be
released back to Mr. Cui is treated as an expense for the amount of the market
value of the shares (i.e. $1.30) as of the date of the performance goals are
met, i.e. December 31, 2008. The total expense recognized for the fiscal year
2008 is $1,300,000 ($1.30×1,000,000).





Income from
Operations





Income
from operations increased 184% to $4.8 million in 2008 from $1.7 million in
2007. The sharp increase in income from operations was primarily due to our
strong marketing and sales efforts and efficient cost control
systems.


34





Interest
Income





Interest
income for 2008 was $50,438, as compared to $2,741 for 2007. The increased
income was accrued from the principal amount of $4.4 million due from Hainan
Zhonghe Group at an interest rate of 5.31% per annum, unsecured and repayable on
demand.





The loan
was mainly used by a subsidiary of Hainan Zhonghe Group, Hainan Zhonghe Peptide
Drugs Research & Development Co., Ltd., to research and develop the new
product, Entecavir, which is expected to launch in 2009.





Other
Income





Year ended December 31,2008
                      
                      
                      As of total
                        sales %
                      
                      
                      2007
                      
                      
                      As of total
                        sales %
                      
                      
                      Variance
                        %OTHER
      INCOMERental
      income
                      
                      $
                      222,515
                      
                      
                      
                      2
                      %
                      
                      $
                      47,852
                      
                      
                      
                      1
                      %
                      
                      
                      365
                      %Others
                      
                      
                      412
                      
                      
                      
                      0
                      %
                      
                      
                      -
                      
                      
                      
                      
                      
                      
                      
                      100
                      %$
                      222,927
                      
                      
                      
                      
                      
                      
                      $
                      47,852





Rental
Income





Rental
income was $222,515 in 2008, as compared to $47,852 in 2007. The increase was
brought by our new tenant, Sinopep Pharmaceutical Inc., which rented our plant
as their workshop at an annual rent of $164,388.





Gain on Disposal of
Property





The
disposed items were non-productive properties, including plants and building
that have been idle for a long period. Management was concerned by the low rate
of return on these assets and the continuing fall in the price of domestic
properties influenced by the financial crisis prevailing in late 2008. The
Company transferred these properties in October, 2008 to mitigate
losses.





The
detailed information of the properties were as listed below:


Items
                        
                        Net book value
                        
                        
                        Selling Price
                        
                        
                        Gain/(loss)1
                        US
      Industrial county (Factory)
                        
                        $
                        239,854
                        
                        
                        $
                        443,909
                        
                        
                        $
                        204,0552
                        Building
      9, Baishayuan in Haikou (building)
                        
                        
                        110,558
                        
                        
                        
                        147,032
                        
                        
                        
                        36,4743
                        Floor
      2 and Floor4 of Baishayuan in Haikou (building)
                        
                        
                        277,576
                        
                        
                        
                        294,180
                        
                        
                        
                        16,6044
                        Room
      401 of Huaxia zhijia in Chengdu (house)
                        
                        
                        9,517
                        
                        
                        
                        9,517
                        
                        
                        
                        -5
                        Sanya
      Dadonghai Villa
                        
                        
                        176,665
                        
                        
                        
                        2,335,642
                        
                        
                        
                        2,158,977Total
                        
                        $
                        814,170
                        
                        
                        $
                        3,230,280
                        
                        
                        $
                        2,416,110





1)
            The factory located at Standard
      Unit 1, Industrial Street, Haikou has a net book value of $239,854. The
      Company sold it for an amount of $443,909 at a profit of
      $204,055.


2)
            The building located at Building
      9, Baishayuan, Wuxi Road, Haidian district, Haikou City has a net book
      value of $110,558. The Company sold it for an amount of $147,032 at a
      profit of $36,474.


3)
            The building located at Floor 2
      and Floor4, Multifunctional Building, Baishayuan, Wuxi Road, Haidian
      District, Haikou City has a net book value of $277,576. The Company sold
      it for an amount of $294,180 at a profit of
  $16,604.


4)
            The apartment located at Room
      401, Unit 3, Building 1, Huaxia zhijia, Youmin Middle Road, Chengdu City
      was sold at the price equal to its net book value of
      $9,517.


5)
            The villa located at Haiyun Road,
      Dadonghai Block, Hedong District, Sanya, has a net book value of $176,665
      The Company made profits in the amount of $2,158,977 from the sale at the
      price of $2,335,642.





Finance
Costs





Year ended December 31,2008
                      
                      
                      As of total
                        sales
                      
                      
                      2007
                      
                      
                      As of total
                        sales
                      
                      
                      Variance
                        %FINANCE
      COSTS
                      
                      
                      
                      
                      %
                      
                      
                      
                      
                      
                      %Interest
      Expenses
                      
                      $
                      495,832
                      
                      
                      
                      4
                      %
                      
                      $
                      530,054
                      
                      
                      
                      7
                      %
                      
                      
                      -6
                      %Bills
      Discounting Charges
                      
                      
                      47,177
                      
                      
                      
                      0
                      %
                      
                      
                      14,857
                      
                      
                      
                      0
                      %
                      
                      
                      218
                      %Bank
      Charges and Net Exchange Loss
                      
                      
                      2,986
                      
                      
                      
                      0
                      %
                      
                      
                      1,230
                      
                      
                      
                      0
                      %$
                      545,995
                      
                      
                      
                      
                      
                      
                      
                      546,141


35





Interest
Expenses





Interest
expenses were accrued from long-term borrowings whose balance remained unchanged
between 2007 and 2008.





Net
Income





Net
income increased 378% to approximately $6.0 million for the year ended December
31, 2008. This was an improvement of approximately $4.8 million, from
approximately $1.2 million for the same period of 2007. This increase was in
line with our revenue growth and margin improvement and reflects income from
disposing property that contributed an additional $2.4 million.





Excluding
the effect of the $1.3 million in the above mentioned Unusual Charge-Make Good
Provision, the actual net income of 2008 was $7.3 million, representing a
482% increase.





Also,
among the Company’s phase II pharmaceutical plant, the Injection Preparation
Plant obtained GMP certification in September, 2008 and went into production in
October of the same year. The Solid Oral Preparations Plant has completed
installation and debugging, expecting to obtain GMP approval in April of 2009.
We believe the increased production capabilities will support our sales and
marketing efforts and improve our profitability in the future.





Foreign Currency Transaction
Adjustments





Exchange
gains and losses arise from the re-calculation of RMB monetary assets and
liabilities into U.S. dollars. The foreign exchange gain for the twelve month
period ended December 31, 2008 was due to an increase in the value of the RMB
relative to the U.S. dollar at December 31, 2008 compared to December 31,
2007.





Earnings per
share





Earnings
per share for the year ended December 31, 2008 were $0.24 per share (both basic
and diluted), compared with $0.05 per share (both basic and diluted) for the
same period in 2007. The increase was contributed by our increased profitability
in 2008.





Excluding
the effect of the $1.3 million in the above mentioned Unusual Charge-Make Good
Provision, the actual net income of 2008 was $7.3 million and the
Company’s earning per share as of December 31, 2008 was $0.30.


36





LIQUIDITY
AND CAPITAL RESOURCES





CASH





At
December 31, 2008, we had cash and cash equivalents totaling $433,599. Our
working capital was $11.3 million, representing an increase of $8.4 million as
compared to working capital of $2.9 million at December 31, 2007. Net cash
provided by operating activities was approximately $5.8 million for the year
ended December 31, 2008,





CASH
FLOW





The
following table provides detailed information about our net cash flow for all
financial statement periods presented in this report.





(All
amounts in thousands of U.S. dollars)


Year Ended December 31,Cash Flow
                  
                  2008
                  
                  
                  2007Net
      cash provided by operating activities
                  
                  
                  5,790
                  
                  
                  
                  (1,162
                  )Net
      cash used in investing activities
                  
                  
                  (4,937
                  )
                  
                  
                  (4,319
                  )Net
      cash provided by (used in) financing activities
                  
                  
                  (1,129
                  )
                  
                  
                  5,691Net
      cash flow
                  
                  
                  (237
                  )
                  
                  
                  243





Operating
Activities





Net cash
provided by operating activities was approximately $5.8 million for the year
ended December 31, 2008, an increase of approximately $7.0 million from the net
cash used in operating activities of approximately $1.2 million for the same
period in 2007. The increased cash flow was due primarily to the increase of our
revenue by $4.1 million in 2008 compared with 2007.





We
currently generate positive 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.





Investing
Activities





Net cash
used in investing activities in the year 2008 was $4.9 million, representing an
increase of 617,116 from net cash used in investing activities of $4.3 million
in 2007. A portion of the cash went to acquiring property, plant and equipment.
We also lent $5.1 million to related companies at a fixed interest rate; the
interest earned thereby will provide an inflow of cash during the next few years
starting in 2009.





Financing
Activities





Net cash
used in financing activities for the year ended December 31, 2008 was $1.1
million, compared with net cash provided from financing activities of $5.7
million during the same period of 2007. During this period, we repaid $1.4
million in loans to a bank.





Off-Balance
Sheet Arrangements





The
Company does not have any off-balance sheet arrangements that have or are
reasonably likely to have a current or future effect on our financial condition,
changes in financial condition, revenues or expenses, results or operations,
liquidity, capital expenditures or capital resources that is material to
investors.





Recently
issued accounting pronouncements





SFAS
162 “The Hierarchy of Generally Accepted Accounting Principles”





In May
2008, FASB issued SFAS 162, “The Hierarchy of Generally Accepted Accounting
Principles” (“SFAS 162”). Effective 60 days following the SEC’s approval of the
Public Company Accounting Oversight Board amendments to AU Section 411, The
Meaning of Present Fairly in Conformity With Generally Accepted Accounting
Principles. The Board does not expect that this Statement will result in a
change in current practice. However, transition provisions have been provided in
the unusual circumstance that the application of the provisions of this
Statement results in a change in practice. The management is in the process of
evaluating the impact that SFAS 162 will have on the Company’s financial
statements upon adoption.


37





SFAS
161 "Disclosures about Derivative Instruments and Hedging Activities - an
amendment to FASB Statement No. 133"





In March
2008, the FASB issued SFAS No. 161, "Disclosures about Derivative Instruments
and Hedging Activities - an amendment to FASB Statement No. 133"(“SFAS 161”).
SFAS No. 161 is intended to improve financial standards for derivative
instruments and hedging activities by requiring enhanced disclosures to enable
investors to better understand their effects on an entity's financial position,
financial performance, and cash flows. Entities are required to provide enhanced
disclosures about: (a) how and why an entity uses derivative instruments; (b)
how derivative instruments and related hedged items are accounted for under
Statement 133 and its related interpretations; and (c) how derivative
instruments and related hedged items affect an entity's financial position,
financial performance, and cash flows. It is effective for financial statements
issued for fiscal years beginning after November 15, 2008, with early adoption
encouraged. The management is in the process of evaluating the impact that SFAS
160 will have on the Company’s financial statements upon adoption.





SFAS
160 “Non-controlling Interests in Consolidated Financial Statements-an amendment
of ARB No. 51”





In
December 2007, the FASB issued SFAS No. 160 “Non-controlling Interests in
Consolidated Financial Statements-an amendment of ARB No. 51” (“SFAS 160”). SFAS
160 establishes accounting and reporting standards for the non-controlling
interest in a subsidiary and for the deconsolidation of a subsidiary. The
guidance will become effective for the fiscal year beginning after December 15,
2008. The management is in the process of evaluating the impact that SFAS 160
will have on the Company’s financial statements upon adoption.





SFAS
No. 141 (Revised) “Business Combinations”





In
December 2007, the FASB issued SFAS No. 141 (Revised) “Business
Combinations”(“SFAS 141 (Revised)”). SFAS 141 (Revised) establishes principles
and requirements for how the acquirer of a business recognizes and measures in
its financial statements the identifiable assets acquired, the liabilities
assumed, and any noncontrolling interest in the acquiree. The statement also
provides guidance for recognizing and measuring the goodwill acquired in the
business combination and determines what information to disclose to enable users
of the financial statements to evaluate the nature and financial effects of the
business combination. The guidance will become effective for the fiscal year
beginning after December 15, 2008. The management is in the process of
evaluating the impact that SFAS 141 (Revised) will have on the Company’s
financial statements upon adoption.





SFAS
159 “The Fair Value Option for Financial Assets and Financial Liabilities -
Including an Amendment of FASB Statement No. 115”





In
February 2007, the FASB issued SFAS No.159, “The Fair Value Option for Financial
Assets and Financial Liabilities - Including an Amendment of FASB Statement
No.115” (“SFAS 159”). SFAS 159 permits entities to choose to measure many
financial instruments and certain other items at fair value. Entities that elect
the fair value option will report unrealized gains and losses in earnings at
each subsequent reporting date. The fair value option may be elected on an
instrument-by-instrument basis, with few exceptions. SFAS 159 also establishes
presentation and disclosure requirements to facilitate comparisons between
companies that choose different measurement attributes for similar assets and
liabilities. The requirements of SFAS 159 are effective for our fiscal year
beginning January 1, 2008. The adoption of this statement has no material effect
on the Company's financial statements.





Item
7A. Quantitative and Qualitative Disclosures about Market Risk.





Not
required for Smaller Reporting Company.





Item
8. Financial Statements and Supplementary Data.





Please
see Financial Statements to this Annual Report on Form 10-K.





Item
9. Changes in and Disagreements with Accountants on Accounting an Financial
Disclosure.





There are
no such reportable events as required by Item 304(b) of Regulation
S-K.





Item
9A. Controls and Procedures.





(a)
Management’s annual report on disclosure controls and procedures.





As
required by Exchange Act Rule 15d-15(b), our management has carried out an
evaluation, under the supervision of our Chief Executive Officer and Principal
Accounting Officer, of the effectiveness of the design and operation of our
disclosure controls and procedures as of December 31, 2008.





Disclosure
controls and procedures refer to controls and other procedures designed to
ensure that information required to be disclosed in the reports we file or
submit under the Securities Exchange Act is recorded, processed, summarized and
reported within the time periods specified in the rules and forms of the SEC and
that such information is accumulated and communicated to our management,
including our Chief Executive Officer and Principal Accounting Officer, as
appropriate, to allow timely decisions regarding required
disclosure.


38





Based on
that evaluation, the Chief Executive Officer and Principal Accounting Officer
have concluded that these disclosure controls and procedures are
effective.





(b)
Management’s annual report on internal control over financial
reporting.





As
required by Exchange Act Rule 15d-15(c), our management has carried out an
evaluation, under the supervision of our Chief Executive Officer and Principal
Accounting Officer, of the effectiveness of the design and operation of our
internal control over financial reporting as of December 31, 2008.





Management
is responsible for establishing and maintaining adequate internal control over
financial reporting. The Company's internal control over financial reporting is
a process that is designed to provide reasonable assurance regarding the
reliability of financial reporting and the preparation of financial statements
for external purposes in accordance with generally accepted accounting
principles, and includes those policies and procedures that:





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





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





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





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





Management
performed an assessment of the effectiveness of the Company's internal control
over financial reporting as of December 31, 2008. In making this assessment, we
used the criteria set forth by the Committee of Sponsoring Organizations of the
Treadway Commission (COSO) in Internal Control - Integrated Framework. Based on
our assessment, we determined that, as of December 31, 2008, our internal
control over financial reporting was effective.





This
Annual Report does not include an attestation report of the Company’s registered
public accounting firm regarding internal control over financial
reporting.  Management’s report was not subject to attestation by the
Company’s registered public accounting firm pursuant to temporary rules of the
Securities and Exchange Commission that permit the Company to provide only
management’s report in this Annual Report.





(c)Changes
in Internal Controls over Financial Reporting





During
the year ended December 31, 2008, there was no change in our internal controls
over financial reporting that has materially affected, or that is
reasonably likely to materially affect, our internal control over financial
reporting.





Item
9B. Other Information.





None.


PART
III





Item
10. Directors, Executive Officers and Corporate Governance.





The
following sets forth the name and position of each of our current executive
officers and directors.





Name
              
              Age
              
              Position HeldXueyun
      Cui
              
              48
              
              ChairmanXiaoqun
      Ye
              
              42
              
              Chief
      Executive OfficerYan
      Lin
              
              37
              
              Chief
      Accounting Officer





The
following is a summary of the biographical information of our
directors and officers:





Xueyun Cui Mr. Cui, was
elected the sole director of Kun Run Biotechnology, Inc. on September 16, 2008.
 As the Chairman of the Company, he joined the Company in April 1995
 and serves as Chairman from April 1995 to present.  Before joining
the Company, Mr. Cui had been General Manager of Hainan Business Chemical Group
for 5 years.


39





Xiaoqun Ye Mr. Ye was
elected the Chief Executive Officer of Kun Run Biotechnology, Inc. on September
16, 2008. He joined the Company in April 2002 as General Manager. He obtained
his bachelor degree in Electronics from Shaanxi faculty of
engineering.





Yan Lin, Ms. Lin was elected
Chief Accounting Officer of Kun Run Biotechnology, Inc. on September 16, 2008.
She joined the Company in October 2001 as Financial Manager. Ms Lin graduated
from Central Finance University with a bachelor degree in
accounting.





There are
no agreements or understandings for any of our executive officers or directors
to resign at the request of another person and no officer or director is acting
on behalf of, nor will any of them act at the direction of any other
person.





Directors
are elected until their successors are duly elected and qualified.





Our
directors and executive officers have not, during the past five
years:





·
            had any bankruptcy petition filed
      by or against any business of which was a general partner or executive
      officer, either at the time of the bankruptcy or within two years prior to
      that time,





·
            been convicted in a criminal
      proceeding and is not subject to a pending criminal
      proceeding,





·
            been subject to any order,
      judgment or decree, not subsequently reversed, suspended or vacated, of
      any court of competent jurisdiction, permanently or temporarily enjoining,
      barring, suspending or otherwise limiting his involvement in any type of
      business, securities, futures, commodities or banking activities;
      or





·
            been found by a court of
      competent jurisdiction (in a civil action), the Securities Exchange
      Commission or the Commodity Futures Trading Commission to have violated a
      federal or state securities or commodities law, and the judgment has not
      been reversed, suspended or
vacated.





Board
Composition and Committees





Prior to
closing of the reverse merger, the board of directors was composed of only one
member, Trixy Sasyniuk-Walt. Ms. Sasyniuk-Walt has submitted her resignation as
our director on September 16, 2008. Mr. Xueyun Cui was appointed as our sole
director upon the resignation of Ms. Sasyniuk-Walt.





We
currently do not have standing audit, nominating or compensation committees.
Currently, our entire board of directors is responsible for the functions that
would otherwise be handled by these committees. We intend, however, to establish
an audit committee and a compensation committee of our board of directors as
soon as practicable. We envision that the audit committee will be primarily
responsible for reviewing the services performed by our independent auditors,
evaluating our accounting policies and our system of internal controls. The
compensation committee will be primarily responsible for reviewing and approving
our salary and benefits policies (including stock options) and other
compensation of our executive officers.





Our board
of directors has not made a determination as to whether any member of our board
is an audit committee financial expert. Upon the establishment of an audit
committee, the board will determine whether any of the directors qualify as an
audit committee financial expert.





Compensation
of Directors.





We have
no formal or informal arrangements or agreements to compensate our directors for
services they provide as directors. We plan to implement a compensation program
for our independent directors, as and when they are appointed, which we
anticipate will include such elements as an annual retainer, meeting attendance
fees and stock options. The details of such compensation program will be
negotiated with each such director.





Family
Relationships





There are
no family relationships among our directors or officers.





Item
11. Executive Compensation.





The
following is a summary of the compensation we paid to our now Chief Executive
Officer, Chief Financial Officer and Mr. Xueyun Cui, for the two years ended
December 31, 2008, and 2007, respectively. No executive officer received
compensation in excess of $100,000 for any of these two years.


40




Name and
                    Principal
                    Position
                  
                  Fiscal
                    Year
                  
                  
                  Salary
                    ($)
                  
                  
                  Bonu
                    s
                    ($)
                  
                  
                  Stock
                    Awards
                    ($)
                  
                  
                  Option
                    Awards
                    ($)
                  
                  
                  Non-equity
                    Incentive Plan
                    Compensation
                    ($)
                  
                  
                  Change in Pension
                    Value and Nonqualified
                    Deferred Compensation
                    Earnings
                    ($)
                  
                  
                  All Other
                    Compensation
                    ($)
                  
                  
                  Total
                    ($)Xueyun Cui
                  
                  
                  2008
                  
                  
                  
                  15,574
                  
                  
                  
                  0
                  
                  
                  
                  0
                  
                  
                  
                  0
                  
                  
                  
                  0
                  
                  
                  
                  0
                  
                  
                  
                  0
                  
                  
                  
                  15,574(Chairman)
      (1)
                  
                  
                  2007
                  
                  
                  
                  14,548
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  14,548Xiaoqun
      Ye
                    (CEO)
      (2)
                  
                  
                  2008
                    2007
                  
                  
                  
                  11,248
                    10,507
                  
                  
                  
                  0
                  
                  
                  
                  0
                  
                  
                  
                  0
                  
                  
                  
                  0
                  
                  
                  
                  0
                  
                  
                  
                  0
                  
                  
                  
                  11,248
                    10,507Yan
      Lin
                    (CAO)(3)
                  
                  
                  2008
                    2007
                  
                  
                  
                  6,534
                    5,011
                  
                  
                  
                  0
                  
                  
                  
                  0
                  
                  
                  
                  0
                  
                  
                  
                  0
                  
                  
                  
                  0
                  
                  
                  
                  0
                  
                  
                  
                  6,534
                    5,011





(1)
            Mr. Xueyun Cui was appointed the
      sole director on September 16,
2008.


(2)
            Mr. Xiaoqun Ye was appointed
      Chief Executive Officer on September 16,
  2008.


(3)
            Ms. Yan Lin was appointed Chief
      Accounting Officer on September 16,
2008.





Bonuses
and Deferred Compensation





We do not
have any bonus, deferred compensation or retirement plan. We do not have a
compensation committee; all decisions regarding compensation are determined by
our entire board of directors.





Stock
Option and Stock Appreciation Rights





We do not
currently have a Stock Option Plan or Stock Appreciation Rights Plan. No stock
options or stock appreciation rights were awarded during the fiscal year ended
December 31, 2008.





Employment
Agreements





We
currently have long-term employment agreements with our executive
officers.


The
material terms are as follows:


We have
signed a 5-year employment agreement with Xiaoqun Ye, our CEO. The agreement is
from January 1, 2007 to December 31, 2011. Salary is based on performance
subject to our productions and operations. Hours are 8 hours per day, 40 hours
per week. We may arrange Mr. Ye to work overtime (no more than 3 hours a day, no
more than 36 hours overtime a month) provided that Mr. Ye is paid overtime
salary in accordance with the Chinese laws and regulations. Mr. Ye is eligible
for standard employee benefits under Chinese laws and regulations.


We have
signed a 5-year employment agreement with Yan Lin, our Chief Accounting Officer.
The agreement is from January 1, 2009 to December 31, 2013. Salary is
$3,519 per year with bonuses based on performance subject to our productions and
operations. Ms. Lin is eligible for standard employee benefits under Chinese
laws and regulations.


We do not
have any employment agreement with Mr. Xueyun Cui, our sole
director.





Item
12. Security Ownership of Certain Beneficial Owners and Management and Related
Stockholder Matters





The
following table sets forth certain information with respect to the beneficial
ownership of our voting securities on March 27, 2009 by (i) each person who owns
beneficially more than 5% of the outstanding shares of our common stock, (ii)
each of our directors, (iii) our chief executive officer, and (iv) all of our
executive officers and directors as a group.




Name and Address of Beneficial Owner *
                  
                  No. of Shares
                  
                  
                  Percentage of
                    Shares
                    OutstandingXueyun
      Cui
                  
                  
                  22,522,500
                  (1)
                  
                  
                  90.09
                  %Xiaoqun
      Ye
                  
                  
                  0
                  
                  
                  
                  0
                  %Yan
      Lin
                  
                  
                  0
                  
                  
                  
                  0
                  %Directors
      and officers as a group (3 persons):
                  
                  
                  22,522,500
                  
                  
                  
                  90.09
                  %





The
address for officers and directors is Hainan Zhonghe Pharmaceutical Co., Ltd.,
Free Trade Zone, 168 Nanhai Avenue, Haikou, Hainan Province, P. R.
China.




(1)
            Represents
      the number of shares of common stock obtained pursuant to Stock Purchase
      Agreement dated August 21, 2008. 1,000,000 of the shares were placed into
      an escrow pursuant to a Make Good Escrow Agreement dated September 16,
      2008.


41





Item
13. Certain Relationships and Related Transactions, and Director
Independence





The
Company has entered into the following transactions with related
parties:-





Related party relationship
              
              Type of transaction
              
              Year endedDecember 31,2008
              
              
              2007Related
      company with the same management personnel
              
              Sales/
      Hainan Heyi Pharmaceutical Ltd
              
              $
              725,856
              
              
              $
              246,013Related
      company with the same management personnel
              
              Rental
      income received for buildings
              
              
              
              
              
              $
              20,690Interest
      expenses under agreement
              
              $
              48,604Related
      company with the same management personnel
              
              Rental
      expenses paid for land use rights and building
              
              
              
              
              
              $
              20,690





In
addition, as of December 31, 2008, the aggregate amount due from Hainan Zhonghe
Group is $4,352,639. The aggregate amount due from Hainan Peptide is
$528,120. These amounts are for purchase of new drugs and R & D. Mr.
Xueyun Cui, our sole director, is the controlling shareholder of Hainan Zhonghe
Group, Hainan Peptide and Hainan Heyi.





Moreover,
On August 21, 2008 (effective September 16, 2008), we entered into a Stock
Purchase Agreement with Kun Run Biotechnology Ltd. (“Kun Run Biotech”), a Hong
Kong corporation and its principal shareholder, pursuant to which we would
acquire all of the outstanding capital stock of Kun Run Biotech in exchange for
24,250,000 newly issued shares of our common stock, of which 1,000,000 shares
was placed into escrow pending the results of Kun Run Biotech for the year
ending December 31, 2008. Upon the closing of the Stock Purchase Agreement,
1,000,000 shares of our common stock held by Trixy Sasyniuk-Walt, an original
shareholder prior to the reverse merger, were cancelled, leaving her only
750,000 shares of our common stock. Thus, including the 24,250,000 shares issued
to the shareholders of Kun Run and their designees pursuant to the Stock
Purchase Agreement, we have 25,000,000 shares of common stock outstanding on a
fully diluted basis upon the closing of the Stock Purchase Agreement. Kun Run
Biotech owns 99.12% of the equity interest in Hainan Zhonghe Pharmaceutical Co.,
Ltd., which manufactures pharmaceutical products in Hainan, People's Republic of
China.





Item
14. Principal Accounting Fees And Services





PKF and
Manning Elliott LLP (“Manning”) have audited our financial statements annually
for the 2008 and 2007 fiscal year. All of the services described below were
approved by our board and audit committee prior to performance. The board has
determined that the payments made to its independent accountant for these
services are compatible with maintaining such auditor's
independence.





Audit
Fees





The
aggregate fees for professional services rendered by PKF in connection with its
audit of our annual consolidated financial statements in our Form 10-K for the
fiscal year ended December 31, 2008 totaled approximately $184,576,
respectively. The aggregate fees for professional services rendered by Manning
in connection with its audit of our consolidated financial statements in our
Form 10-K for the fiscal year ended October 31, 2007 and review of our financial
statements included in our three quarterly reports on Form 10-Q’s for the
quarters ended January 31, April 30 and July 31, 2008 totaled approximately
$18,280.





Audit-Related
Fees





No fees
were paid or accrued by us for assurance and related services rendered by PKF or
Manning in connection with their audit and review of our financial statements
for the fiscal years ended December 31, 2008 and October 31, 2007.





Tax
Fees





No fees
were paid or accrued by us for professional services rendered by PKF
or Manning for tax compliance, tax advice and tax planning for the fiscal years
December 31, 2008 and October 31, 2007, respectively.





All
Other Fees





No fees
were paid or accrued by us for other services rendered by PKF or Manning for the
fiscal years ended December 31, 2008 and October 31, 2007.


42





PART
IV





Item
15. Exhibits and Financial Statement Schedules





(a)(1) The Following financial
statements are included in this Annual Report on Form 10-K commencing on the
page numbers specified below




Report
      of Independent Registered Public Accounting Firm
              
              F-1Consolidated
      Balance Sheets at December 31, 2008 and 2007
              
              F-3Consolidated
      Statements of Income and Other Comprehensive Income for the Years Ended
      December 31, 2008 and 2007
              
              F-2Consolidated
      Statements of Shareholders’ equity
              
              F-7Consolidated
      Statements of Cash Flows for the Years Ended December 31, 2008 and
      2007
              
              F-5Notes
      to Consolidated Financial Statements
              
              F-8





(2) 
Financial Statement Schedules





None





(3) 
Exhibits





The
exhibits listed on the Exhibit Index are included, or incorporated by reference,
in this annual report.


43


Kun
Run Biotechnology, Inc.





Consolidated
Financial Statements


For the
year ended December 31, 2008


(Stated
in US dollars)








Kun Run
Biotechnology, Inc.


Consolidated
Financial Statements





Index to
Consolidated Financial Statements





PagesReport
      of Independent Registered Public Accounting Firm
              1Consolidated
      Statements of Income and Comprehensive Income
              2Consolidated
      Balance Sheets
              3 -
      4Consolidated
      Statements of Cash Flows
              5 -
      6Consolidated
      Statements of Stockholders’ Equity
              7Notes
      to Consolidated Financial Statements
              8 -
      28


45








F-1





Kun
Run Biotechnology, Inc.


Consolidated
Statements of Income and Comprehensive Income


(Stated
in US Dollars)





Year ended December 31,2008
                                  
                                  
                                  2007Sales
      revenue
                                  
                                  $
                                  11,622,503
                                  
                                  
                                  $
                                  7,471,326Cost
      of sales
                                  
                                  
                                  3,410,891
                                  
                                  
                                  
                                  3,134,608Gross
      profit
                                  
                                  
                                  8,211,612
                                  
                                  
                                  
                                  4,336,718Operating
      expensesAdministrative
      expenses
                                  
                                  
                                  1,184,864
                                  
                                  
                                  
                                  967,121Research
      and developments costs
                                  
                                  
                                  271,476
                                  
                                  
                                  
                                  276,138Selling
      expenses
                                  
                                  
                                  687,949
                                  
                                  
                                  
                                  1,416,469Unusual
      charge - make good provision - Note 23
                                  
                                  
                                  1,300,000
                                  
                                  
                                  
                                  -3,444,289
                                  
                                  
                                  
                                  2,659,728Income
      from operations
                                  
                                  
                                  4,767,323
                                  
                                  
                                  
                                  1,676,990Government
      subsidy income
                                  
                                  
                                  31,003
                                  
                                  
                                  
                                  22,225Interest
      income
                                  
                                  
                                  50,438
                                  
                                  
                                  
                                  2,741Gain
      on disposal of property, plant and equipment
                                  
                                  
                                  2,416,110
                                  
                                  
                                  
                                  -Other
      income - Note 4
                                  
                                  
                                  222,927
                                  
                                  
                                  
                                  47,852Finance
      costs - Note 5
                                  
                                  
                                  (545,995
                                  )
                                  
                                  
                                  (546,141
                                  )Income
      before income taxes and minority interest
                                  
                                  
                                  6,941,806
                                  
                                  
                                  
                                  1,203,667Income
      taxes - Note 6
                                  
                                  
                                  (907,439
                                  )
                                  
                                  
                                  56,796Minority
      interest - Note 20
                                  
                                  
                                  (64,658
                                  )
                                  
                                  
                                  (11,095
                                  )Net
      Income
                                  
                                  $
                                  5,969,709
                                  
                                  
                                  $
                                  1,249,368Other
      comprehensive incomeForeign
      currency translation adjustments
                                  
                                  
                                  858,953
                                  
                                  
                                  
                                  115,366Total
      comprehensive income
                                  
                                  $
                                  6,828,662
                                  
                                  
                                  $
                                  1,364,734Earnings
      per share : basic and diluted - Note 7
                                  
                                  $
                                  0.24
                                  
                                  
                                  $
                                  0.05Weighted
      average number of shares outstanding :-basic
      and diluted
                                  
                                  
                                  24,467,808
                                  
                                  
                                  
                                  24,250,000





See Notes
to Consolidated Financial Statements


F-2




Kun
Run Biotechnology, Inc.


Consolidated
Balance Sheets


(Stated
in US Dollars)





As of December 31,2008
                  
                  
                  2007ASSETSCurrent
      assetsCash
      and cash equivalents
                  
                  $
                  433,599
                  
                  
                  $
                  670,919Trade
      receivables, net - Note 8
                  
                  
                  4,732,750
                  
                  
                  
                  3,460,416Bills
      receivable
                  
                  
                  117,360
                  
                  
                  
                  -Other
      receivables, prepayments and deposits - Note 9
                  
                  
                  985,683
                  
                  
                  
                  1,418,700Receivables
      from disposal of properties - Note 10
                  
                  
                  2,061,793
                  
                  
                  
                  -Inventories
      - Note 11
                  
                  
                  689,415
                  
                  
                  
                  527,308Income
      tax recoverable
                  
                  
                  -
                  
                  
                  
                  196,065Amounts
      due from related companies - Note 12
                  
                  
                  5,595,307
                  
                  
                  
                  68,950Deferred
      taxes - Note 6
                  
                  
                  8,362
                  
                  
                  
                  27,220Total
      current assets
                  
                  
                  14,624,269
                  
                  
                  
                  6,369,578Intangible
      assets - Note 13
                  
                  
                  111,004
                  
                  
                  
                  5,379Property,
      plant and equipment, net - Note 14
                  
                  
                  9,685,374
                  
                  
                  
                  8,851,242Land
      use rights - Note 15
                  
                  
                  3,775,540
                  
                  
                  
                  3,593,265Deposit
      for acquisition of property, plant and equipment
                  
                  
                  445,691
                  
                  
                  
                  943,022TOTAL
      ASSETS
                  
                  $
                  28,641,878
                  
                  
                  $
                  19,762,486





See Notes
to Consolidated Financial Statements




F-3





Kun
Run Biotechnology, Inc.


Consolidated
Balance Sheets (Cont’d)


(Stated
in US Dollars)





As of December 31,2008
                  
                  
                  2007LIABILITIES
      AND STOCKHOLDERS’ EQUITYLIABILITIESCurrent
      liabilitiesTrade
      payables
                  
                  $
                  966,937
                  
                  
                  $
                  572,893Other
      payables and accrued expenses - Note 16
                  
                  
                  1,672,500
                  
                  
                  
                  1,257,918Dividend
      payable to Zhonghe’s former /existing minority
stockholders
                  
                  
                  7,209
                  
                  
                  
                  20,863Income
      tax payable
                  
                  
                  655,019
                  
                  
                  
                  -Amounts
      due to related companies - Note 12
                  
                  
                  936
                  
                  
                  
                  267,616Secured
      borrowings - Note 17
                  
                  
                  -
                  
                  
                  
                  1,371,000Total
      current liabilities
                  
                  
                  3,302,601
                  
                  
                  
                  3,490,290Deferred
      taxes - Note 6
                  
                  
                  8,255
                  
                  
                  
                  -Secured
      long-term borrowings - Note 17
                  
                  
                  6,528,150
                  
                  
                  
                  5,792,475TOTAL
      LIABILITIES
                  
                  
                  9,839,006
                  
                  
                  
                  9,282,765COMMITMENTS AND CONTINGENCIES- Note 18MINORITY INTEREST- Note
      20
                  
                  
                  169,145
                  
                  
                  
                  103,365STOCKHOLDERS’
      EQUITYPreferred
      stock : par value of $0.001 per share, authorized 10,000,000 shares in
      2008 and 2007, none issued and outstanding
                  
                  
                  -
                  
                  
                  
                  -Common
      stock : par value $0.001 per share - Note 19 Authorized 100,000,000 shares
      in 2008 and 2007; issued and outstanding 25,000,000 shares in 2008 and
      24,250,000 shares in 2007
                  
                  
                  25,000
                  
                  
                  
                  24,250Additional
      paid-in capital
                  
                  
                  8,969,033
                  
                  
                  
                  7,541,074Statutory
      and other reserves - Note 21
                  
                  
                  2,820,850
                  
                  
                  
                  1,725,313Accumulated
      other comprehensive income
                  
                  
                  1,601,345
                  
                  
                  
                  742,392Retained
      earnings
                  
                  
                  5,217,499
                  
                  
                  
                  343,327TOTAL
      STOCKHOLDERS’ EQUITY
                  
                  
                  18,633,727
                  
                  
                  
                  10,376,356TOTAL
      LIABILITIES AND STOCKHOLDERS’ EQUITY
                  
                  $
                  28,641,878
                  
                  
                  $
                  19,762,486





See Notes
to Consolidated Financial Statements


F-4





Kun
Run Biotechnology, Inc.


Consolidated
Statements of Cash Flows


(Stated
in US Dollars)





Year ended December 31,2008
                    
                    
                    2007Cash
      flows from operating activitiesNet
      income
                    
                    $
                    5,969,709
                    
                    
                    $
                    1,249,368Adjustments
      to reconcile net income to net cash provided by (used in) operating
      activities :-Depreciation
                    
                    
                    661,747
                    
                    
                    
                    515,062Amortization
      of land use rights and intangible assets
                    
                    
                    72,845
                    
                    
                    
                    5,148Deferred
      taxes
                    
                    
                    28,524
                    
                    
                    
                    (56,796
                    )(Gain)/loss
      on disposal of property, plant and equipment
                    
                    
                    (2,416,110
                    )
                    
                    
                    6,038Provision
      for doubtful debts
                    
                    
                    281,698
                    
                    
                    
                    322,349Minority
      interest
                    
                    
                    64,658
                    
                    
                    
                    11,095Unusual
      charge - make good provision
                    
                    
                    1,300,000
                    
                    
                    
                    -Changes
      in operating assets and liabilities :-Trade
      receivables
                    
                    
                    (1,294,173
                    )
                    
                    
                    (1,882,116
                    )Bills
      receivable
                    
                    
                    (115,360
                    )
                    
                    
                    -Other
      receivables, prepayments and deposits
                    
                    
                    523,286
                    
                    
                    
                    331,264Inventories
                    
                    
                    (123,050
                    )
                    
                    
                    1,008,369Trade
      payables
                    
                    
                    347,897
                    
                    
                    
                    65,976Other
      payables and accrued expenses
                    
                    
                    268,500
                    
                    
                    
                    (83,624
                    )Income
      tax recoverable
                    
                    
                    206,218
                    
                    
                    
                    (192,632
                    )Income
      tax payable
                    
                    
                    643,856
                    
                    
                    
                    (8,523
                    )Amount
      due to a related company
                    
                    
                    -
                    
                    
                    
                    (2,391,895
                    )Amount
      due from a related company
                    
                    
                    (629,852
                    )
                    
                    
                    (61,664
                    )Net
      cash flows provided by (used in) operating activities
                    
                    
                    5,790,393
                    
                    
                    
                    (1,162,581
                    )Cash
      flows from investing activitiesPayments
      to acquire and for deposit for acquisition of property, plant and
      equipment
                    
                    
                    (1,140,333
                    )
                    
                    
                    (1,232,000
                    )Amounts
      due from related parties
                    
                    
                    (5,079,840
                    )
                    
                    
                    (3,104,041
                    )Proceeds
      from sales of property, plant and equipment
                    
                    
                    1,211,104
                    
                    
                    
                    16,606Payment
      to acquire patents
                    
                    
                    (77,147
                    )
                    
                    
                    -Cash
      acquired from RTO
                    
                    
                    149,665
                    
                    
                    
                    -Net
      cash flows used in investing activities
                    
                    $
                    (4,936,551
                    )
                    
                    $
                    (4,319,435
                    )





See Notes
to Consolidated Financial Statements


F-5





Kun
Run Biotechnology, Inc.


Consolidated
Statements of Cash Flows (Cont’d)


(Stated
in US Dollars)





Year ended December 31,2008
                    
                    
                    2007Cash
      flows from financing activitiesProceeds
      from borrowings
                    
                    $
                    324,450
                    
                    
                    $
                    7,038,075Repayment
      of borrowings
                    
                    
                    (1,442,000
                    )
                    
                    
                    (1,347,000
                    )Dividend
      paid to Zhonghe’s former /existing minority stockholders
                    
                    
                    (11,885
                    )
                    
                    
                    -Net
      cash flows (used in) provided by financing activities
                    
                    
                    (1,129,435
                    )
                    
                    
                    5,691,075Effect
      of foreign currency translation on cash and cash
    equivalents
                    
                    
                    38,273
                    
                    
                    
                    33,464Net
      (decrease) increase in cash and cash equivalents
                    
                    
                    (237,320
                    )
                    
                    
                    242,523Cash
      and cash equivalents - beginning of year
                    
                    
                    670,919
                    
                    
                    
                    428,396Cash
      and cash equivalents - end of year
                    
                    $
                    433,599
                    
                    
                    $
                    670,919Supplemental
      disclosures for cash flow information :-Cash
      paid for :-Interest
      and bill discounting charges
                    
                    $
                    543,009
                    
                    
                    $
                    544,911Income
      taxes
                    
                    $
                    28,840
                    
                    
                    $
                    201,155Non-cash
      investing and financing activities:Acquisition
      of land use right and buildings by offsetting the amount due from Hainan
      Zhonghe Group
                    
                    $
                    -
                    
                    
                    $
                    5,104,860Common
      stock issued by Zhonghe for acquisition of land use right and buildings
      from Hainan Zhonghe Group
                    
                    
                    -
                    
                    
                    
                    4,295,480Dividend
      payable to Zhonghe’s former stockholders settled by offsetting amount due
      from related companies and other payables
                    
                    
                    125,948
                    
                    
                    
                    6,561,564Distribution
      of earning and profits settled by offsetting amount due from Hainan
      Zhonghe Group
                    
                    $
                    -
                    
                    
                    $
                    1,632,965





See Notes
to Consolidated Financial Statements


F-6





Kun
Run Biotechnology, Inc.


Consolidated
Statements of Stockholders’ Equity


(Stated
in US Dollars)





AccumulatedAdditional
                    
                    
                    Statutory
                    
                    
                    otherCommon stock
                    
                    
                    paid-in
                    
                    
                    and other
                    
                    
                    comprehensive
                    
                    
                    RetainedNo. of shares
                    
                    
                    Amount
                    
                    
                    capital
                    
                    
                    reserves
                    
                    
                    income
                    
                    
                    earnings
                    
                    
                    Total(Note 21)Balance,
      January 1, 2007
                    
                    
                    24,250,000
                    
                    
                    $
                    24,250
                    
                    
                    $
                    7,541,074
                    
                    
                    $
                    1,490,588
                    
                    
                    $
                    627,026
                    
                    
                    $
                    6,874,937
                    
                    
                    $
                    16,557,875Net
      income
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    1,249,368
                    
                    
                    
                    1,249,368Foreign
      currency translation adjustments
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    115,366
                    
                    
                    
                    -
                    
                    
                    
                    115,366Appropriation
      to reserves
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    234,725
                    
                    
                    
                    -
                    
                    
                    
                    (234,725
                    )
                    
                    
                    -Dividend
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    (5,927,658
                    )
                    
                    
                    (5,927,658
                    )Distribution
      of earning and profits - Note 22
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    (1,618,595
                    )
                    
                    
                    (1,618,595
                    )Balance,
      December 31, 2007
                    
                    
                    24,250,000
                    
                    
                    
                    24,250
                    
                    
                    
                    7,541,074
                    
                    
                    
                    1,725,313
                    
                    
                    
                    742,392
                    
                    
                    
                    343,327
                    
                    
                    
                    10,376,356Recapitalisation
                    
                    
                    750,000
                    
                    
                    
                    750
                    
                    
                    
                    127,959
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    128,709Net
      income
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    5,969,709
                    
                    
                    
                    5,969,709Foreign
      currency translation adjustments
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    858,953
                    
                    
                    
                    -
                    
                    
                    
                    858,953Appropriation
      to reserves
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    1,095,537
                    
                    
                    
                    -
                    
                    
                    
                    (1,095,537
                    )
                    
                    
                    -Unusual
      charge - make good provision - Note 23
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    1,300,000
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    1,300,000Balance,
      December 31, 2008
                    
                    
                    25,000,000
                    
                    
                    $
                    25,000
                    
                    
                    $
                    8,969,033
                    
                    
                    $
                    2,820,850
                    
                    
                    $
                    1,601,345
                    
                    
                    $
                    5,217,499
                    
                    
                    $
                    18,633,727





See Notes
to Consolidated Financial Statements


F-7





1.
            Corporate
      information





Kun Run
Biotechnology, Inc. formerly known as Aspen Racing Stables, Inc. (the “Company”)
was incorporated in the State of Nevada on March 10, 2006.  The
Company’s shares are quoted for trading on the Over-The-Counter Bulletin Board
in the United States of America.





On
September 8, 2008, the Company implemented a reverse split of which the issued
common shares of the Company decreased from 6,000,000 to 1,750,000 with par
value remaining unchanged at $0.001 each.  On September 16, 2008,
1,000,000 common shares, which are held by the stockholders of the Company of
$0.001 each were cancelled.





On August
21, 2008, the Company entered into an agreement with the stockholders of Kun Run
Biotechnology Limited (“Kun Run”) to acquire their issued and outstanding common
stocks in Kun Run by issuing 24,250,000 common shares (representing the number
of shares after the reverse split) at par value of $0.001 each.  The
acquisition, which was completed on September 16, 2008, consititued a reverse
takeover transaction (“RTO”) and thereafter Kun Run became a wholly owned
subsidiary of the Company.





Kun Run,
which changed its name from Max Talent Industrial Ltd. on February 25, 2008, was
incorporated in Hong Kong on May 6, 2006 as a limited liability company with
registered share capital of HK$10,000, divided into 10,000 common shares of HK$1
par value each. Kun Run was dormant since its incorporation until March 24,
2008, which is the date Kun Run entered into a share purchase agreement with
Hainan Zhonghe (Group) Co., Ltd. (“Hainan Zhonghe Group”), Hainan Zhonghe
Peptide Drugs Research & Development Co., Ltd. (“Zhonghe Peptide”) and
Hainan Hekun Bronze Art Co., Ltd. (“Hainan Hekun”) to acquire their respective
60%, 0.083% and 0.033% interests in Hainan Zhonghe Pharmaceutical Co., Ltd.
(“Zhonghe”) at a total cash consideration of USD5,205,906. On May 27, 2008, the
Company entered into another share purchase agreement with Hainan Zhonghe Group
to acquire its 39% interests in Zhonghe at a cash consideration of USD3,416,563.
The acquisitions (the “Acquisition”) were completed on June 26, 2008. Upon the
completion of the Acquisition, Zhonghe became a 99.12% owned subsidiary of Kun
Run. Zhonghe is a high-technology domestic company established in Hainan
Province, the People’s Republic of China (the “PRC”) on April 17, 1995 with
registered capital of RMB11 million.





Mr.
Xueyun Cui (“Mr. Cui”) is the ultimate controlling party of Hainan Zhonghe
Group, Zhonghe Peptide, Hainan Hekun, Kun Run and the Company. It is therefore
defined that Hainan Zhonghe Group, Zhonghe Peptide and Hainan Hekun were the
related parties for the Company due to under the common control of Mr.
Cui.





Following
the Acquisition and RTO, the Company commenced to be engaged in manufacture,
marketing, sale and distribution of drugs in PRC. The Company’s products could
be used to treat immunity dysfunction and hyperfunction.




2.
            Basis of
      presentation





The
Acquisition and RTO have been accounted for as a recapitalization of the Company
whereby the historical financial statements and operations of Kun Run and its
subsidiary, Zhonghe, become the historical financial statements of the Company,
with no adjustment to the carrying value of the assets and
liabilities.  The 750,000 common shares (representing the number of
shares after the reverse split) of the Company outstanding prior to the RTO are
accounted for at $128,709 of net book value at the time of the
RTO.   The accompanying consolidated financial statements reflect
the recapitalization of the stockholders equity as if the transaction occurred
as of the beginning of the first period presented.


F-8




3.
            Summary of significant accounting
      policies





Principles of
consolidation





The
consolidated financial statements include the accounts of the Company and its
subsidiaries. All significant inter-company accounts and transactions have been
eliminated in consolidation.





Use of
estimates





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





Concentrations of credit
risk





Financial
instruments that potentially subject the Company to significant concentrations
of credit risk consist principally of cash and cash equivalents and trade
receivables. As of December 31, 2008 and 2007, substantially all of the
Company’s cash and cash equivalents were held by major financial institutions
located in the People of Republic of China (the "PRC"), which management
believes are of high credit quality. With respect to trade receivables, the
Company extends credit based on an evaluation of the customer’s financial
condition. The Company generally does not require collateral for trade
receivables and maintains an allowance for doubtful accounts of trade
receivables.





During
the reporting periods, customers representing 10% or more of the Company’s sales
are :-





Year ended December 31,2008
                            
                            
                            2007Beijing
      Xingshengyuan Pharmaceutical Ltd.
                            
                            $
                            956,585
                            
                            
                            $
                            2,276,113





Details
of customers for 10% or more of the Company's trade receivables are
:-





As of December 31,2008
                      
                      
                      2007Beijing
      Xingshengyuan Pharmaceutical Ltd.
                      
                      $
                      1,240,606
                      
                      
                      $
                      2,053,003Hainan
      Heyi Pharmaceutical Ltd.
                      
                      
                      714,548
                      
                      
                      
                      68,950$
                      1,955,154
                      
                      
                      $
                      2,121,953


F-9





3. Summary of significant accounting
policies (Cont’d)





Cash and cash
equivalents





Cash and
cash equivalents include all cash, deposits in banks and other highly liquid
investments with initial maturities of three months or less to be cash
equivalents. As of December 31, 2008 and 2007, almost all the cash and cash
equivalents were denominated in Renminbi (“RMB”) and were placed with banks in
the PRC. They are not freely convertible into foreign currencies and the
remittance of these funds out of the PRC is subject to exchange control
restrictions imposed by the PRC government. The remaining insignificant balance
of cash and cash equivalents were denominated in Hong Kong dollars and US
dollars.





Allowance for doubtful
debts





The
Company establishes an allowance for doubtful debts based on management’s
assessment of the collectibility of trade receivables. A considerable amount of
judgment is required in assessing the amount of the allowance, the Company
considers the historical level of credit losses and applies percentages to aged
receivable categories. The Company makes judgments about the creditworthiness of
each customer based on ongoing credit evaluations, and monitors current economic
trends that might impact the level of credit losses in the future. If the
financial condition of the customers were to deteriorate, resulting in their
inability to make payments, a larger allowance may be required.





Based on
the above assessment, during the reporting periods, the management establishes
the following rates of general provision provided on gross amount of trade
receivables :-





RateAged
      within 1 year
                        
                        
                        10
                        %Aged
      over 1 year but within 2 years
                        
                        
                        40
                        %Aged
      over 2 years but within 3 years
                        
                        
                        80
                        %More
      than 3 years
                        
                        
                        100
                        %





Additional
specific provision is made against trade receivables whenever they are
considered to be doubtful.





Bad debts
are fully written off when identified or the trade receivable aged more than 3
years. The Company extends unsecured credit to customers ranging from three to
six months in the normal course of business. The Company does not accrue
interest on trade accounts receivable.





Provision
for doubtful debts of $281,698 and $322,349 are included in selling expenses for
two years ended December 31, 2008 and 2007 respectively.





Inventories





Inventories
are stated at the lower of cost or market value. Cost is determined on weighted
average basis and includes all expenditures incurred in bringing the goods to
the point of sale and putting them in a saleable condition. In assessing the
ultimate realization of inventories, the management makes judgments as to future
demand requirements compared to current or committed inventory levels. The
Company’s reserve requirements generally increase with its projected demand
requirements; decrease due to market conditions, product life cycle changes. The
Company estimates the demand requirements based on market conditions, forecasts
prepared by its customers, sales contracts and orders in hand. Inventory that is
obsolete or expired is written down to its market value if lower than cost.
Inventory quantities are regularly reviewed and provisions for excess or
obsolete inventory are recorded primarily based on the Company’s forecast of
future demand and market conditions.


F-10





3.Summary of significant accounting
policies (Cont’d)





Property, plant and
equipment





Property,
plant and equipment are stated at cost less accumulated depreciation. Cost
represents the purchase price of the asset and other costs incurred to bring the
asset into its existing use.





Depreciation
is provided on straight-line basis over their estimated useful lives. The
principal depreciation rates are as follows :-





Annual rate
                      
                      
                      Residual valueBuildings
                      
                      
                      2.5
      - 5
                      %
                      
                      
                      5
                      %Plant
      and machinery
                      
                      
                      10
      - 20
                      %
                      
                      
                      3
                      %Motor
      vehicles
                      
                      
                      14
      - 20
                      %
                      
                      
                      5
                      %Furniture,
      fixtures and equipment
                      
                      
                      20
                      %
                      
                      
                      3
                      %Leasehold
      improvements
                      
                      
                      20
                      %
                      
                      Nil





Construction
in progress mainly represents expenditures in respect of Zhonghe’s new offices
and factories under construction. All direct costs relating to the acquisition
or construction of Zhonghe’s new office and factories are capitalized as
construction in progress. No depreciation is provided in respect of construction
in progress.





Maintenance
or repairs are charged to expense as incurred. Upon sale or disposition, the
applicable amounts of asset cost and accumulated depreciation are removed from
the accounts and the net amount less proceeds from disposal is charged or
credited to income.





Intangible
assets





They
represent pharmaceutical licenses and patents and are stated at cost less
accumulated amortization. Amortization is provided on a straight-line basis over
their useful lives of 5 years.





Land use
rights





Land use
rights are stated at cost less accumulated amortization. Amortization is
provided using the straight-line method over the terms of the lease of 55 and 56
years obtained from the relevant PRC land authority.





Impairment of long-lived
assets





Long-lived
assets are tested for impairment in accordance with SFAS No. 144. The Company
periodically evaluates potential impairment whenever events or changes in
circumstances indicate that the carrying amount of the assets may not be
recoverable. The Company recognizes impairment of long-lived assets in the event
that the net book values of such assets exceed the future undiscounted cash
flows attributable to such assets. During the reporting periods, the Company has
not identified any indicators that would require testing for
impairment.





Minority
interests





Minority
interests resulted from the consolidation of 99.12% owned subsidiary,
Zhonghe.


F-11





3.Summary of significant accounting
policies (Cont’d)





Government subsidy
income





Government
subsidy income was $31,003 for the year ended December 31, 2008 (2007: $22,225).
It mainly consisted of receipt of funds granted to subsidize the research and
development activities in relation to the Zhonghe’s qualification of new and
high technology. The amount is un-conditional, non-refundable and without any
restrictions on usage at the time of grant to and receipt by the Company. Such
grant is recognised as income at time of receipt for the year.





Revenue
recognition





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





Advertising and research and
development expenses





Advertising
and research and development expenses are charged to expense as
incurred.





Advertising
expenses amounting to $69,591and $327,329 for two years ended December 31, 2008
and 2007 respectively are included in selling expenses.





Research
and development expenses consist primarily of remuneration for research and
development staff and material costs for research and development.





Cost of
sales





Cost of
sales consists primarily of material costs, freight charges, purchasing and
receiving costs, inspection costs, wages, employee compensation, depreciation
and related costs, which are directly attributable to the production of
products. Write-down of inventory to lower of cost or market is also recorded in
cost of sales.





Selling
expenses





Selling
expenses are mainly consists of advertising, commission, entertainment,
salaries, transportation cost and traveling expense which are incurred during
the selling activities.





General and administrative
expenses





General
and administrative expenses consist of rent paid, office expenses, staff
welfare, consumables, labor protection and salaries and wage which are incurred
at the administrative level and exchange difference.





Stock-based
compensation





The
Company adopted the provisions of SFAS 123R, which requires the use of the fair
value method of accounting for share-based compensation. Under the fair value
based method, compensation cost related to employee stock options or similar
equity instruments which are equity-classified awards, is measured at the grant
date based on the value of the award and is recognized over the requisite
service period, which is usually the vesting period. SFAS 123R also requires
measurement of cost of a liability-classified award based on its current fair
value.


F-12





3.Summary of significant accounting
policies (Cont’d)





Income
taxes





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





Dividends





Dividends
are recorded in Company’s financial statements in the period in which they are
declared.





Off-balance sheet
arrangements





The
Company does not have any off-balance sheet arrangements.





Comprehensive
income





The
Company has adopted SFAS No. 130 “Reporting Comprehensive Income”, which
establishes standards for reporting and display of comprehensive income, its
components and accumulated balances. Components of comprehensive income include
net income and foreign currency translation adjustments.





Foreign currency
translation





The
functional currency of the Company is RMB and RMB is not freely convertible into
foreign currencies. The Company maintains its financial statements in the
functional currency. Monetary assets and liabilities denominated in currencies
other than the functional currency are translated into the functional currency
at rates of exchange prevailing at the balance sheet date. Transactions
denominated in currencies other than the functional currency are translated into
the functional currency at the exchanges rates prevailing at the dates of the
transaction. Exchange gains or losses arising from foreign currency transactions
are included in the determination of net income for the respective
periods.


F-13





3.Summary of significant accounting
policies (Cont’d)





Foreign currency translation
(Cont’d)





For
financial reporting purposes, the financial statements of the Company which are
prepared using the functional currency have been translated into United States
dollars. Assets and liabilities are translated at the exchange rates at the
balance sheet dates and revenue and expenses are translated at the average
exchange rates and stockholders’ equity is translated at historical exchange
rates. Any translation adjustments resulting are not included in determining net
income but are included in foreign exchange adjustment to other comprehensive
income, a component of stockholders’ equity. The exchange rates in effect at
December 31, 2008 and 2007 were RMB1 for $0.1467 and $0.1371 respectively. There
is no significant fluctuation in exchange rate for the conversion of RMB to US
dollars after the balance sheet date.





Basic and diluted earnings
per share





The
Company reports basic earnings per share in accordance with SFAS No. 128
“Earnings Per Share”. Basic earnings per share is computed using the weighted
average number of shares outstanding during the periods presented. The weighted
average number of shares of the Company represents the common stock outstanding
during the reporting periods.





Fair value of financial
instruments





In
September 2006, the FASB issued SFAS No. 157, “Fair Value Measurements” (“SFAS
157”). SFAS 157 defines fair value, establishes a framework for measuring fair
value in generally accepted accounting principles (GAAP), and expands
disclosures about fair value measurements. SFAS 157 does not require any new
fair value measurements; however, the standard will impact how other fair value
based GAAP is applied. Subsequently, the FASB issued FSP FAS 157-2 which delayed
the effective date of SFAS 157 for all nonfinancial assets and nonfinancial
liabilities, except those that are recognized or disclosed at fair value in the
financial statements on a recurring basis (at least annually) to fiscal years
beginning after November 15, 2008. The Company adopted SFAS 157 on January 1,
2008. The adoption of SFAS 157 did not materially impact the Company’s financial
position, results of operations or cash flows.





Statement
of Financial Accounting Standards No. 107 “Disclosures About Fair Value of
Financial Instruments” (“SFAS 107”) requires the disclosure of the estimated
fair value of financial instruments including those financial instruments for
which the Financial Accounting Standards No. 159 fair value option was not
elected. Except for secured borrowings disclosed as below, the carrying amounts
of the financial assets and liabilities approximate to their fair value due to
short maturities or the applicable interest rates approximate current market
rates:-





As of December 31, 2008
                        
                        
                        As of December 31, 2007Carrying
                        
                        
                        
                        
                        
                        Carryingamount
                        
                        
                        Fair value
                        
                        
                        amount
                        
                        
                        Fair valueSecured
      borrowings
                        
                        $
                        6,528,150
                        
                        
                        $
                        6,407,755
                        
                        
                        $
                        7,163,475
                        
                        
                        $
                        7,108,459





The fair
values of secured borrowings are estimated using discounted cash flow analysis,
based on the Company’s current incremental borrowing rates for similar types of
borrowing arrangements.


F-14





3.Summary of significant accounting
policies (Cont’d)





Recently issued accounting
pronouncements





In May
2008, FASB issued SFAS 162, “The Hierarchy of Generally Accepted Accounting
Principles” (“SFAS 162”). Effective 60 days following the SEC’s approval of the
Public Company Accounting Oversight Board amendments to AU Section 411, The
Meaning of Present Fairly in Conformity With Generally Accepted Accounting
Principles. The Board does not expect that this Statement will result in a
change in current practice. However, transition provisions have been provided in
the unusual circumstance that the application of the provisions of this
Statement results in a change in practice. The management is in the process of
evaluating the impact that SFAS 162 will have on the Company’s financial
statements upon adoption.





In March
2008, the FASB issued SFAS No. 161, "Disclosures about Derivative Instruments
and Hedging Activities - an amendment to FASB Statement No. 133" (“SFAS 161”).
SFAS No. 161 is intended to improve financial standards for derivative
instruments and hedging activities by requiring enhanced disclosures to enable
investors to better understand their effects on an entity's financial position,
financial performance, and cash flows. Entities are required to provide enhanced
disclosures about: (a) how and why an entity uses derivative instruments; (b)
how derivative instruments and related hedged items are accounted for under
Statement 133 and its related interpretations; and (c) how derivative
instruments and related hedged items affect an entity's financial position,
financial performance, and cash flows. It is effective for financial statements
issued for fiscal years beginning after November 15, 2008, with early adoption
encouraged. The management is in the process of evaluating the impact that SFAS
160 will have on the Company’s financial statements upon adoption.





In
December 2007, the FASB issued SFAS No. 160 “Noncontrolling Interests in
Consolidated Financial Statements-an amendment of ARB No. 51” (“SFAS 160”). SFAS
160 establishes accounting and reporting standards for the noncontrolling
interest in a subsidiary and for the deconsolidation of a subsidiary. The
guidance will become effective for the fiscal year beginning after December 15,
2008. The management is in the process of evaluating the impact that SFAS 160
will have on the Company’s financial statements upon adoption.





In
December 2007, the FASB issued SFAS No. 141 (Revised) “Business Combinations”
(“SFAS 141 (Revised)”). SFAS 141 (Revised) establishes principles and
requirements for how the acquirer of a business recognizes and measures in its
financial statements the identifiable assets acquired, the liabilities assumed,
and any noncontrolling interest in the acquiree. The statement also provides
guidance for recognizing and measuring the goodwill acquired in the business
combination and determines what information to disclose to enable users of the
financial statements to evaluate the nature and financial effects of the
business combination. The guidance will become effective for the fiscal year
beginning after December 15, 2008. The management is in the process of
evaluating the impact that SFAS 141 (Revised) will have on the Company’s
financial statements upon adoption.





In
February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for
Financial Assets and Financial Liabilities - Including an Amendment of FASB
Statement No. 115” (“SFAS 159”). SFAS 159 permits entities to choose to
measure many financial instruments and certain other items at fair value.
Entities that elect the fair value option will report unrealized gains and
losses in earnings at each subsequent reporting date. The fair value option may
be elected on an instrument-by-instrument basis, with few exceptions. SFAS 159
also establishes presentation and disclosure requirements to facilitate
comparisons between companies that choose different measurement attributes for
similar assets and liabilities. The requirements of SFAS 159 are effective for
our fiscal year beginning January 1, 2008. The adoption of this statement
has no material effect on the Company's financial statements.


F-15





4.
            Other
    income





Year ended December 31,2008
                        
                        
                        2007Rental
      income
                        
                        $
                        222,515
                        
                        
                        $
                        47,852Others
                        
                        
                        412
                        
                        
                        
                        -$
                        222,927
                        
                        
                        $
                        47,852





5.
            Finance
    costs





Year ended December 31,2008
                        
                        
                        2007Interest
      expenses
                        
                        $
                        495,832
                        
                        
                        $
                        530,054Bills
      discounting charges
                        
                        
                        47,177
                        
                        
                        
                        14,857Bank
      charges and net exchange loss
                        
                        
                        2,986
                        
                        
                        
                        1,230$
                        545,995
                        
                        
                        $
                        546,141





6.
            Income
    taxes





United
States





Kun Run
Biotechnology, Inc. is subject to the United States Federal and state income tax
at a statutory rate of 35%. No provision for the U.S. Federal income taxes have
been made as the Company had no taxable income in this jurisdiction for the
reporting period.





HK





Kun Run
Biotechnology Ltd. was incorporated in Hong Kong and subject to Hong Kong
profits tax at a tax rate of 16.5%. No provision for Hong Kong profits tax has
been made as the Company has no taxable income during the reporting
period.





PRC





The
Company’s subsidiary, Zhonghe, is registered and operates in Hainan Province,
the PRC, and recognized as “Manufacturing Enterprise Located in Special Economic
Zone”. As a result, Zhonghe is entitled to a preferential corporate income tax
(“CIT”) rate of 15% up to December 31, 2007.


F-16





6.
            Income taxes
      (Cont’d)





PRC
(Cont’d)





The PRC’s
legislative body, the National People’s Congress, adopted the unified CIT Law on
March 16, 2007. This new tax law replaces the existing separate income tax laws
for domestic enterprises and foreign-invested enterprises and became effective
on January 1, 2008. Under the new tax law, a unified income tax rates is
set at 25% for both domestic enterprises and foreign-invested enterprises.
However, there will be a transition period for enterprises, whether
foreign-invested or domestic, that are currently receiving preferential tax
treatments granted by relevant tax authorities. Enterprises that are subject to
an enterprise income tax rate lower than 25% may continue to enjoy the lower
rate and will transit into the new tax rate over a five year period beginning on
the effective date of the CIT Law. In accordance with the guideline, enterprise
is subject to the tax rate of 18% for 2008, 20% for 2009, 22% for 2010, 24% for
2011 and 25% for 2012 respectively during the transition period. Enterprises
that are currently entitled to exemptions for a fixed term will continue to
enjoy such treatment until the exemption term expires.





As
approved by the relevant tax authority in the PRC, Zhonghe, being a Foreign
Investment Enterprise ("FIE"), engaged in an advanced technology industry, was
approved to enjoy a further three years' preferential tax rate at 15% for 2008,
2009 and 2010 ("Advanced Technology Industry Tax Benefit"). In addition, Zhonghe
was entitled to a special tax concession (“Tax Concession”) that allows an
amount up to 40% of the qualifying domestic capital expenditures (as defined and
approved under the relevant PRC income tax rule) to be used as an offset against
the excess of the current year's CIT over the prior year's CIT. This special tax
concession was terminated by the National People’s Congress on January 1,
2008.





The
components of the provision (benefit) for income taxes are :-





Year ended December 31,2008
                        
                        
                        2007Current
      taxes
                        
                        $
                        878,915
                        
                        
                        $
                        -Deferred
      taxes
                        
                        
                        28,524
                        
                        
                        
                        (56,796
                        )$
                        907,439
                        
                        
                        $
                        (56,796
                        )





The
effective income tax expenses differs from the PRC statutory income tax rate of
18% (2007 : 15%) in the PRC as follows :-





Year ended December 31,2008
                        
                        
                        2007Provision
      for income taxes at PRC statutory income tax rate of 18% (2007 :
      15%)
                        
                        $
                        1,249,525
                        
                        
                        $
                        180,550Non-deductible
      items for tax
                        
                        
                        253,477
                        
                        
                        
                        18,278Income
      not subject to tax
                        
                        
                        (24,433
                        )
                        
                        
                        (257,806
                        )Tax
      rate change
                        
                        
                        -
                        
                        
                        
                        2,182Advanced
      Technology Industry Tax Benefit
                        
                        
                        (251,687
                        )
                        
                        
                        -Tax
      Concession
                        
                        
                        (319,443
                        )
                        
                        
                        -$
                        907,439
                        
                        
                        $
                        (56,796
                        )


F-17





6.
            Income taxes
      (Cont’d)





PRC
(cont’d)





During
the two years ended December 31, 2008 and 2007, the aggregate amounts of
benefits from Advanced Technology Industry Tax Benefit and Tax Concession were
$571,130 and $nil and the respective effect on earnings per share were $0.02 and
$nil.





In July
2006, the FASB issued Interpretation No. 48, “Accounting for Uncertainty in
Income Taxes” (“FIN 48”). This interpretation requires recognition and
measurement of uncertain income tax positions using a “more-likely-than-not”
approach. The Company adopted FIN 48 on January 1, 2007. The management
evaluated the Company’s tax positions and considered that no additional
provision for uncertainty in income taxes is necessary as of December 31,
2008.





Deferred
tax assets (liabilities) as of December 31, 2008 and 2007 are composed of the
following :-




As of December 31,2008
                                  
                                  
                                  2007PRCCurrent
      deferred tax assts (liabilities):-Allowance
      for doubtful debts
                                  
                                  $
                                  -
                                  
                                  
                                  $
                                  (20,530
                                  )Accrued
      liabilities
                                  
                                  
                                  8,362
                                  
                                  
                                  
                                  13,326Tax
      losses
                                  
                                  
                                  -
                                  
                                  
                                  
                                  34,424$
                                  8,362
                                  
                                  
                                  $
                                  27,220PRCNon
      current deferred tax assts (liabilities):-Depreciation
      of property, plant and equipment
                                  
                                  
                                  (5,959
                                  )
                                  
                                  
                                  -Amortisation
      of land use right
                                  
                                  
                                  (2,379
                                  )
                                  
                                  
                                  -Amortisation
      of patents
                                  
                                  
                                  83
                                  
                                  
                                  
                                  -$
                                  (8,255
                                  )
                                  
                                  $
                                  -


F-18





7.
            Earnings per
      share





During
the reporting periods, the Company had no dilutive instruments. Accordingly, the
basic and diluted earnings per share are the same.





8.
            Trade receivables,
      net





As of December 31,2008
                              
                              
                              2007Trade
      receivables
                              
                              $
                              5,769,370
                              
                              
                              $
                              4,202,296Less
      : allowance for doubtful accounts
                              
                              
                              (1,036,620
                              )
                              
                              
                              (741,880
                              )$
                              4,732,750
                              
                              
                              $
                              3,460,416





An
analysis of the allowance for doubtful accounts for the years ended December 31,
2008 and 2007 is as follows :-





Year ended December 31,2008
                        
                        
                        2007Balance
      at beginning of year
                        
                        $
                        741,880
                        
                        
                        $
                        2,305,137Addition/(reversal)
      of bad debt expense, net
                        
                        
                        281,698
                        
                        
                        
                        322,349Bad
      debts written off
                        
                        
                        (43,043
                        )
                        
                        
                        (2,015,469
                        )Translation
      adjustments
                        
                        
                        56,085
                        
                        
                        
                        129,863Balance
      at end of year
                        
                        $
                        1,036,620
                        
                        
                        $
                        741,880





9.
            Other receivables, prepayments
      and deposits





As of December 31,2008
                        
                        
                        2007Deposits
      paid
                        
                        $
                        65,808
                        
                        
                        $
                        50,298Prepayments
                        
                        
                        688,746
                        
                        
                        
                        742,150Other
      receivables
                        
                        
                        176,694
                        
                        
                        
                        567,284Paid
      in advance to suppliers
                        
                        
                        54,435
                        
                        
                        
                        58,968$
                        985,683
                        
                        
                        $
                        1,418,700





10.
            Receivables from disposal of
      properties





The
amounts represent receivables from disposal of properties at considerations of
totalling $3,237,761 of which $1,175,968 was received as of December 31, 2008.
The remaining balance of $2,061,793 was subsequently settled in February
2009.


F-19





11.
            Inventories





As of December 31,2008
                        
                        
                        2007Raw
      materials
                        
                        $
                        284,837
                        
                        
                        $
                        250,337Work-in-progress
                        
                        
                        260,504
                        
                        
                        
                        40,585Finished
      goods
                        
                        
                        144,074
                        
                        
                        
                        236,386$
                        689,415
                        
                        
                        $
                        527,308





12.
            Amounts due from / to related
      companies




As of December 31,2008
                                        
                                        
                                        2007Amount
      due from Hainan Zhonghe Group - Note 12(a)
                                        
                                        $
                                        4,352,639
                                        
                                        
                                        $
                                        -Amount
      due from Hainan Peptide - Note 12(a)
                                        
                                        
                                        528,120
                                        
                                        
                                        
                                        -Amount
      due from Hainan Heyi Pharmaceutical Co., Ltd.(“Hainan
      Heyi”) - Note 12(b)
                                        
                                        
                                        714,548
                                        
                                        
                                        
                                        68,950$
                                        5,595,307
                                        
                                        
                                        $
                                        68,950Amount
      due to Hainan Zhonghe Group - Note 12(c)
                                        
                                        $
                                        -
                                        
                                        
                                        $
                                        149,820Dividend
      payable to Zhonghe’s former stockholdersHainan
      Zhonghe Group - Note 12(c)
                                        
                                        
                                        -
                                        
                                        
                                        
                                        111,308Zhonghe
      Peptide - Note 12(c)
                                        
                                        
                                        -
                                        
                                        
                                        
                                        5,614Hainan
      Hekun - Note 12(c)
                                        
                                        
                                        936
                                        
                                        
                                        
                                        874$
                                        936
                                        
                                        
                                        $
                                        267,616




Notes
:-





(a)
            These amounts are carried at an
      interest rate of 5.31% per annum, unsecured and repayable on
      demand.





(b)
            The related company is under the
      common control of Mr. Cui. The amount is interest free, unsecured and
      repayable on demand.





(c)
            The amount is interest free,
      unsecured and repayable on
demand.





13.
            Intangible
      assets





As of December 31,2008
                        
                        
                        2007Pharmaceutical
      licenses and patentsCosts
                        
                        $
                        124,738
                        
                        
                        $
                        13,751Accumulated
      amortization
                        
                        
                        (13,734
                        )
                        
                        
                        (8,372
                        )Net
                        
                        $
                        111,004
                        
                        
                        $
                        5,379





During
the two years ended December 31, 2008 and 2007 amortization charge was $4,695
and $2,702 respectively.


F-20





13.
            Intangible assets
      (Cont’d)





The
estimated aggregate amortization expenses for patents for the five succeeding
years is as follows :-





Year2009
                          
                          $
                          24,4532010
                          
                          
                          22,3702011
                          
                          
                          22,0052012
                          
                          
                          22,0052013
                          
                          
                          20,171$
                          111,004





14.
            Property, plant and equipment,
      net





As
      of December 31,2008
                          
                          
                          2007Costs
      :-Buildings
                          
                          $
                          5,892,393
                          
                          
                          $
                          6,881,266Plant
      and machinery
                          
                          
                          4,233,317
                          
                          
                          
                          3,626,451Furniture,
      fixtures and equipment
                          
                          
                          273,587
                          
                          
                          
                          275,402Leasehold
      improvements
                          
                          
                          118,645
                          
                          
                          
                          110,881Motor
      vehicles
                          
                          
                          714,281
                          
                          
                          
                          667,53811,232,223
                          
                          
                          
                          11,561,538Accumulated
      depreciation
                          
                          
                          (2,882,383
                          )
                          
                          
                          (2,715,232
                          )Construction
      in progress - Note 14(c)
                          
                          
                          1,335,534
                          
                          
                          
                          4,936Net
                          
                          $
                          9,685,374
                          
                          
                          $
                          8,851,242





(a)
            An analysis of buildings pledged
      to banks for bank and other loans (Note 17(b)(i)) is as follows
      :-





Year ended December 31,2008
                          
                          
                          2007Costs
                          
                          $
                          3,224,955
                          
                          
                          $
                          4,369,980Accumulated
      depreciation
                          
                          
                          (128,793
                          )
                          
                          
                          (100,250
                          )Net
                          
                          $
                          3,096,162
                          
                          
                          $
                          4,269,730





As of
December 31, 2008, buildings with carrying value of $3,096,162 acquired from
Hainan Zhong Group on December 31, 2007 have been pledged for bank loan granted
to Zhonghe (Note 17b(i)). Accordingly the legal title of the buildings cannot be
transferred to Zhonghe until the bank loan is fully repaid in 2010. Pursuant to
the separate trust agreements, both parties agreed that Hainan Zhonghe Group
will continue to hold the legal title of the abovementioned pledged buildings
for Zhonghe until the full settlement of related bank loans has been made by
Zhonghe.


F-21





14.
            Property, plant and equipment,
      net (Cont’d)





(b)
            During the reporting periods,
      depreciation is included in
:





As of December 31,2008
                      
                      
                      2007Cost
      of sales and overheads of inventories
                      
                      $
                      537,407
                      
                      
                      $
                      475,020Administrative
      expenses
                      
                      
                      124,340
                      
                      
                      
                      40,042$
                      661,747
                      
                      
                      $
                      515,062





During
the years ended December 31, 2008 and 2007, property, plant and equipment with
carrying amounts of $821,651 and $22,644 were disposed of at considerations of
$3,237,761 and $16,606 resulting in gain/(loss) of $2,416,110 and $(6,038)
respectively.





(c)
            Construction in
      Progress





Construction
in progress mainly comprises capital expenditure for construction of the
Company’s new offices and factories.





15.
            Land use
      rights





As of December 31,2008
                        
                        
                        2007Land
      use rights
                        
                        $
                        3,847,536
                        
                        
                        $
                        3,595,754Accumulated
      amortization
                        
                        
                        (71,996
                        )
                        
                        
                        (2,489
                        )$
                        3,775,540
                        
                        
                        $
                        3,593,265





The
carrying amount of land use rights as of December 31, 2008 represents two
separate land use rights acquired from Hainan Zhonghe Group on September 29,
2007 and December 31, 2007 respectively. The land use right with carrying value
of $2,292,485 as of December 31, 2008 was pledged to the bank for the loans
granted to Zhonghe (Note 17b(ii)). The legal title of the pledged land use right
has not been transferred to Zhonghe after the acquisition as such transfer can
only be done after the related bank loans granted to Zhonghe will be fully
settled in 2010. Pursuant to a trust agreement, both parties agreed that Hainan
Zhonghe Group will continue to hold the legal title of the pledged land for
Zhonghe until the full settlement of related bank loans has been made by
Zhonghe.





The legal
title of the remaining land use right with carrying value of $1,483,055 as of
December 31, 2008 has not been transferred to Zhonghe after the acquisition.
Pursuant to a trust agreement, both parties agreed that Hainan Zhonghe Group
will continue to hold the legal title of the land for Zhonghe until the
completion of the legal title transfer.





During
the two years ended December 31, 2008 and 2007, amortization amounted to $68,150
and $2,446 respectively.


F-22





15.
            Land use rights
      (Cont’d)





The
estimated aggregate amortization expenses for land use rights for the five
succeeding years is as follows :-





Year2009
                          
                          $
                          69,3322010
                          
                          
                          69,3322011
                          
                          
                          69,3322012
                          
                          
                          69,3322013
                          
                          
                          69,332$
                          346,660





16.
            Other payables and accrued
      expenses





As of December 31,2008
                        
                        
                        2007Accrued
      audit fee
                        
                        $
                        55,746
                        
                        
                        $
                        74,034Deposits
      from sales agents and other deposit
                        
                        
                        518,080
                        
                        
                        
                        479,018Other
      accrued expenses
                        
                        
                        70,427
                        
                        
                        
                        125,705Other
      tax payable
                        
                        
                        780,705
                        
                        
                        
                        186,756Payable
      for acquisition of property, plant and equipment
                        
                        
                        128,091
                        
                        
                        
                        79,560Sales
      receipt in advance from customers
                        
                        
                        47,955
                        
                        
                        
                        172,915Staff
      welfare payable (Note)
                        
                        
                        59,917
                        
                        
                        
                        137,195Salary
      payable
                        
                        
                        11,579
                        
                        
                        
                        2,735$
                        1,672,500
                        
                        
                        $
                        1,257,918





Note
:-





Staff
welfare payable represents accrued staff medical, industry injury claims, labor
and unemployment insurances. All of which are third parties insurance and the
insurance premiums are based on certain percentage of salaries. The obligations
of the Company are limited to those premiums contributed by the
Company.


F-23





17.
            Secured
      borrowings





As
      of December 31,2008
                            
                            
                            2007Short-term
      loanBank
      loan - Note 17(a)Short-term
      loan
                            
                            $
                            -
                            
                            
                            $
                            1,371,000Long-term
      loansBank
      loans - Note 17(b), 17(c)-
      due 2009
                            
                            
                            -
                            
                            
                            
                            5,484,000-
      due 2010
                            
                            
                            5,868,000
                            
                            
                            
                            -Other
      loans - Note 17(d)-
      due 2010
                            
                            
                            330,075
                            
                            
                            
                            308,475-
      due 2011
                            
                            
                            330,075
                            
                            
                            
                            -6,528,150
                            
                            
                            
                            5,792,475$
                            6,528,150
                            
                            
                            $
                            7,163,475





(a)
            The weighted-average interest
      rate for short-term loans as of December 31, 2007 was 8.28% per
      annum.





(b)
            As of December 31, 2008, the
      above bank loans were secured by the following
  :-





(i)
            Buildings with carrying value of
      $3,096,162 (Note 14(a)); and


(ii)
            Land use right with carrying
      value of $2,292,485 (Note
15).





(c)
            The long-term bank loans as of
      December 31, 2008 and 2007 were at fixed rate of 8.28% and 8.28% per annum
      respectively.





(d)
            The other loans, which were
      granted to Zhonghe by the PRC local government authority, is interest-free
      and secured by the buildings disposed at considerations of $442,233 during
      the year to a third party and repayable on June 30, 2010 and 2011. The
      other loans were not discounted to their present values as the effect of
      discounting is immaterial. The legal title of the pledged buildings has
      not been transferred to the third party as the related other loans granted
      to Zhonghe has not been settled until 2011. Pursuant to a trust agreement,
      both parties agreed that Zhonghe will continue to hold the legal title of
      the pledged buildings until the full settlement of related other loans has
      been made by Zhonghe.





During
the reporting periods, there was no covenant requirement under the facilities
granted to the Company.





18.
            Commitments and
      contingencies





(a)
            Capital
      commitment





As of
December 31, 2008, the Company had capital commitments amounting to $123,309 in
respect of the acquisition of property, plant and equipment which were
contracted for but not provided in the consolidated financial
statements.





(b)
            Operating
      lease arrangement





As of
December 31, 2008, the Company had no non-cancelable operating
lease.


F-24





18.
            Commitments and contingencies
      (Cont’d)





(c)
            Contingencies





As of
December 31, 2008, the Company had no contingencies.





19.
            Common stock and additional
      paid-in-capital





Common stockNumber ofshares asadjusted for
                        
                        
                        
                        
                        
                        Additionalforward
                        
                        
                        
                        
                        
                        paid-instock split
                        
                        
                        Amount
                        
                        
                        capitalBalance,
      December 31, 2007 and January 1, 2008
                        
                        
                        24,250,000
                        
                        
                        $
                        24,250
                        
                        
                        $
                        7,541,074Recapitalization
                        
                        
                        750,000
                        
                        
                        
                        750
                        
                        
                        
                        127,959Unusual
      charge - make good provision - Note 23
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        1,300,000Balance,
      December 31, 2008
                        
                        
                        25,000,000
                        
                        
                        $
                        25,000
                        
                        
                        $
                        8,969,033





(a)
            On September 8, 2008, the Company
      implemented a reverse split of which the issued common shares of the
      Company decreased from 6,000,000 to 1,750,000 with par value remaining
      unchanged at $0.001 each. The effect of reverse split has been
      retroactively reflected in these financial statements. All references to
      weighted average shares outstanding and per share amounts included in the
      accompanying consolidated financial statements and notes reflect the
      reverse split and its retroactive effects. On September 16, 2008,
      1,000,000 common shares, which are held by the stockholders of the Company
      of $0.001 each were
cancelled.





(b)
            On September 16, 2008, the
      Company issued 24,250,000 common shares (representing the number of shares
      after the reverse split) at par value of $0.001 each to the then
      stockholders of Kun Run in exchange of 100% of the outstanding capital
      stock of Kun Run.





(c)
            The Company’s issued and
      outstanding 750,000 common shares immediately prior to the RTO were
      accounted for at $128,709 of net book value at the time of the
      RTO.





20.
            Minority
      interest





Minority
interest in the consolidated statements of income and comprehensive income of
$64,658 and $11,095 for the year ended December 31, 2008 and 2007 respectively
represents the minority stockholders’ proportionate share of the net income of
Zhonghe.


F-25





21.
            Statutory and other
      reserves





The
statutory and other reserves comprise of the following :-





As of December 31,2008
                      
                      
                      2007Statutory
      surplus reserve
                      
                      $
                      2,820,850
                      
                      
                      $
                      1,725,313





In
accordance with the relevant laws and regulations of the PRC, it is required
that not less than 10% of its net income (the percentage is upon approval from
the board of directors’ meeting), after offsetting any prior years’ losses, for
PRC tax reporting purpose to the statutory reserve.





When the
balance of such reserve reaches 50% of the registered capital, any further
appropriation is optional. Upon approval from the board of directors of the
Zhonghe, the statutory reserve can mainly be used to offset accumulated
losses.





22.
            Special distribution of earning
      and profits





Special
distribution of earning and profits was represented the excess consideration
paid for acquired land use rights and buildings from Hainan Zhonghe Group by
issuance of shares by the Zhonghe and offsetting the amount due from the Hainan
Zhonghe Group.





23.
            Make good escrow
      agreement





In
connection with the stock purchase agreement dated August 15 2008, Mr. Cui has
agreed to place into escrow an aggregate of 1,000,000 shares of common stock
owned by him (“Escrow Shares”) with Trixy Sasyniuk-Walt, one of the stockholders
of the Company. The Escrow Shares were pledged to secure the Company’s
commitment to achieve the 2008 Guaranteed After-Tax Net Income (“2008 Guaranteed
ATNI”).





The
release of Escrow Shares to Traixy Sasyniuk-Walt or Mr. Cui will be made on or
before March 31, 2009 with reference to the 2008 Guaranteed ATNI as follows
:-





(e)
            If the 2008 Guaranted ATNI is
      equal to or greater than $7,000,000, then all of the Escrow Shares shall
      be returned to Mr. Cui.





(f)
            If the 2008 Guaranteed ATNI is
      less than $7,000,000, but equal to or greater than $6,000,000, then 50% of
      the Escrow Shares shall be released to Traixy Sasyniuk-Walt and 50%
      returned to Mr. Cui.





(g)
            If the 2008 Guaranteed ATNI is
      less than $6,000,000, but equal to or greater than $5,000,000, then 75% of
      the Escrow Shares shall be released to Traixy Sasyniuk-Walt and 25%
      returned to Mr. Cui.





(h)
            If the 2008 Guaranteed ATNI is
      less than $5,000,000, then all of the Escrow Shares shall be released to
      Traixy Sasyniuk-Walt.


F-26





23.
            Make good escrow agreement
      (Cont’d)





For the
purpose of determining whether or not the 2008 Guaranteed ATNI threshold has
been met, the compensation charges from the release of any shares to Mr. Cui and
payment to Halter Capital Corp. ("Halter") under the term of the Consulting
Agreement dated August 15, 2008 will not be deemed an expense to the
Company.





Excluding
the compensation charges of $1,300,000 and consultancy fee of $317,069 to
Halter, the net income is $7,586,778 for the fiscal year ended December 31, 2008
and thus the Company has achieved the 2008 Guaranteed ATNI.





Following
the achievement of the 2008 performance criteria, the Escrow Shares to be
released back to Mr. Cui is treated as an expense for the amount of the market
value of the shares as of the date of the performance goals are met, i.e.
December 31, 2008. The total expense recognized for the fiscal year 2008 is
$1,300,000.





24.
            Defined contribution
      plan





Pursuant
to the relevant PRC regulations, the Company is required to make contributions
at a rate of 29% of the average salaries for the latest fiscal year-end of
Hainan Province Haikou Shi to a defined contribution retirement scheme organized
by a state-sponsored social insurance plan in respect of the retirement benefits
for the Company's employees in the PRC. The only obligation of the Company with
respect to retirement scheme is to make the required contributions under the
plan. No forfeited contribution is available to reduce the contribution payable
in the future years. The defined contribution plan contributions were charged to
the consolidated statements of profit. The Company contributed $84,329 and
$64,535 for the year ended December 31, 2008 and 2007 respectively.





25.
            Segment
      information





The
Company is solely engaged in the manufacturing, marketing, sale and distribution
of drugs. Since the nature of the products, their production processes, the
type of their customers and their distribution methods are substantially
similar, they are considered as a single reportable segment under SFAS 131,
“Disclosures about Segments of an Enterprise and Related
Information”.





All of
the Company’s long-lived assets and revenues classified based on the customers
are located in the PRC.


F-27





26.
            Related party
      transactions





Apart
from the transactions as disclosed in notes 12, 14, 15 and 17 to the financial
statements, the Company has entered into the following transactions with related
parties:





Year ended December 31,Related party relationship
                              
                              Type of transaction
                              
                              2008
                              
                              
                              2007Hainan
      Heyi
                              
                              Sales
                              
                              $
                              725,856
                              
                              
                              $
                              246,013Hainan
      Zhonghe Group
                              
                              Interest
      income
                              
                              
                              48,604
                              
                              
                              
                              -Hainan
      Zhonghe Group
                              
                              Rental
      income received for buildings
                              
                              
                              -
                              
                              
                              
                              20,690Hainan
      Zhonghe Group
                              
                              Rental
      expenses paid for buildings
                              
                              
                              -
                              
                              
                              
                              20,690Hainan
      Heyi
                              
                              Research
      and development cost
                              
                              $
                              -
                              
                              
                              $
                              38,783


F-28





Index
to Exhibits





Number
                  
                  Description of Exhibit3.1
                  
                  Amended
      and Restated Articles of Incorporation of the Company incorporated by
      reference to exhibit 3.1 of Form SB-2 filed on March 16,
    20073.2
                  
                  Bylaws
      of the Company incorporated by reference to exhibit 3.2 of Form SB-2 filed
      on March 16, 2007.4.1
      (1)
                  
                  Stock
      Purchase Agreement by and among Aspen Racing Stables, Inc., Trixy
      Sasyniuk-Walt, Kun Run Biotechnology Ltd., Xueyun Cui and Liqiong Yang
      dated August 21, 20084.2
      (1)
                  
                  Make
      Good Escrow Agreement by and among Aspen Racing Stables, Inc., Xueyun Cui,
      Trixy Sasyniuk-Walt, and Securities Transfer Corporation dated September
      16, 200810.1
      (1)
                  
                  Consulting
      Agreement by and between Halter Capital Corporation and Kun Run
      Biotechnology Ltd. dated September 16, 200810.2
      (2)
                  
                  Real
      Property Purchase and Sale Agreement between Hainan Zhonghe Pharmaceutical
      Co., Ltd. and Hainan Twenty First Media Co., Ltd. dated October 9,
      200810.3
      (2)
                  
                  Supplemental
      Contract to exhibit 10.2 dated October 27, 200810.4
      (2)
                  
                  Real
      Property Purchase and Sale Agreement between Hainan Zhonghe Pharmaceutical
      Co., Ltd. and Hainan Xike Real Estates Co., Ltd. dated October 6,
      200810.5
      (2)
                  
                  Power
      Cable Purchase Agreement between Hainan Zhonghe Pharmaceutical Co. Ltd.
      and Hainan Delixi Electric Power Facility Company dated March 27,
      200810.6
      (2)
                  
                  Power
      Cable Purchase Agreement between Hainan Delixi Electro-mechanical
      Equipment Mfg.Co.Ltd and Hainan Zhonghe Pharmaceutical Co. Ltd. dated
      March 27, 200810.7
      (2)
                  
                  General
      Agent Agreement between Hainan Zhonghe Pharmaceutical Co. Ltd. and Beijing
      Yabaofangda Pharmaceutical Limited dated November 1,
  200810.8
      (2)
                  
                  Employment
      Agreement between the Company and Yan Lin dated January 1,
      200910.9
      (2)
                  
                  Employment
      Agreement between the Company and Xiaoqun Ye dated January 1,
      200721.1*
                  
                  Subsidiaries
      of the Company31.1*
                  
                  Certification
      of Chief Executive Officer under Section 302 of the Sarbanes-Oxley Act of
      200231.2*
                  
                  Certification
      of Principal Financial Officer under Section 302 of the Sarbanes-Oxley Act
      of 200232.1*
                  
                  Certifications
      Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, 18 U.S.C.
      Section 1350




(1)
Incorporated by reference to same exhibit number of our current report on Form
8-K filed on September 22, 2008


(2)
Incorporated by reference to same exhibit number of our annual report on Form
10-K filed on March 31, 2009.


*   Filed
herewith.





SIGNATURE




Pursuant
to the requirements of the Securities Exchange Act of 1934, the Registrant has
duly caused this Annual Report on Form 10-K/A to be signed on its behalf by the
undersigned hereunto duly authorized.





Kun
      Run Biotechnology, Inc.(Registrant)Dated:
      April 3, 2009By
       /s/ Xiaoqun YeName:
                Xiaoqun
      YeTitle:
                Chief
      Executive Officer





Pursuant
to the requirements of the Securities Exchange Act of 1934, this Annual Report
on Form 10-K/A has been signed by the following persons in the capacities
indicated as of April 3, 2009.





Signature
                      
                      Title/s/
      Xueyun
      Cui
                      
                      DirectorXueyun
      Cui/s/Yan Lin
                      
                      Chief
      Accounting OfficerYan
      Lin