UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF

THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended March 31, 2010

OR

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

SECURITIES EXCHANGE ACT OF 1934

Commission File Number

001-33709

CHINA ARCHITECTURAL ENGINEERING, INC.

(Exact name of small business issuer as specified in its charter)

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

0086-756-8538908

(Registrant’s telephone number, including area code)

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

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  o     No  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.  (Check one):

Large accelerated filer  ¨	Accelerated filer  ¨	Non-accelerated filer  x	Smaller reporting company  ¨
		(Do not check if a smaller
		reporting company)

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

There were 55,156,874 shares outstanding of registrant’s common stock, par value $0.001 per share, as of May 14, 2010.

CHINA ARCHITECTURAL ENGINEERING, INC.

FORM 10-Q QUARTERLY REPORT

TABLE OF CONTENTS

		Page
PART I - FINANCIAL INFORMATION		3
ITEM 1.	FINANCIAL STATEMENTS	3
	Consolidated Balance Sheet as of March 31, 2010 (unaudited) and December 31, 2009	5
	Unaudited Interim Consolidated Statements of Income for the three months ended March 31, 2010 and 2009	6
	Unaudited Interim Consolidated Statements of Cash Flows for the three months ended March 31, 2010 and 2009	7
	Unaudited Consolidated Statements of Stockholders’ Equity from January 1, 2010 to March 31, 2010	8
	Notes to the Unaudited Interim Consolidated Financial Statements	9
ITEM 2.	MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATION	29
ITEM 3.	QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK	38
ITEM 4.	CONTROLS AND PROCEDURES	38
PART II - OTHER INFORMATION		41
ITEM 1.	LEGAL PROCEEDINGS	41
ITEM 1A.	RISK FACTORS	41
ITEM 2.	UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS	42
ITEM 3.	DEFAULTS UPON SENIOR SECURITIES	42
ITEM 4.	REMOVED AND RESERVED	42
ITEM 5.	OTHER INFORMATION	42
ITEM 6.	EXHIBITS	42
SIGNATURES		43

2

PART I - FINANCIAL INFORMATION

ITEM 1.         FINANCIAL STATEMENTS

The accompanying unaudited financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and with the instructions to Form 10-Q. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. The accompanying unaudited financial statements reflect all adjustments that, in the opinion of management, are considered necessary for a fair presentation of the financial position, results of operations, and cash flows for the periods presented. The results of operations for such periods are not necessarily indicative of the results expected for the full fiscal year or for any future period. The accompanying unaudited financial statements should be read in conjunction with the audited financial statements of China Architectural Engineering, Inc. as contained in its Annual Report for the fiscal year ended December 31, 2009 on Form 10-K, as filed with the Securities and Exchange Commission on March 4, 2010, and as amended by Amendment No.1 on April 30, 2010 and Amendment No.2 on May 14, 2010.

3

CHINA ARCHITECTURAL ENGINEERING, INC.

CONSOLIDATED BALANCE SHEETS

AS OF MARCH 31, 2010 (UNAUDITED) AND DECEMBER 31, 2009

(STATED IN US DOLLARS)

	Note	March31,2010		December31, 2009
		(unaudited)
ASSETS
Current assets
Cash and cash equivalents		$	497,348	$	740,125
Restricted cash			2,024,080		3,033,819
Contract receivables, net	(3)		88,281,494		89,189,103
Costs and earnings in excess of billings			10,193,454		8,100,580
Job disbursements advances			1,957,233		2,696,794
Other receivables	(4)		25,821,226		30,768,067
Inventories	(5)		162,346		727,499
Deferred income taxes, current			112,893		113,033
Other current assets			497,884		297,838
Total current assets			129,547,958		135,666,858
Non-current assets
Plant and equipment, net	(6)		2,361,334		2,539,457
Intangible assets	(7)		59,987		70,610
Goodwill			7,995,896		7,995,896
Other non-current asset			36,424		287,586
TOTAL ASSETS		$	140,001,599	$	146,560,407
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities
Short-term bank loans	(8)	$	7,856,554	$	9,529,880
Accounts payable			25,873,394		26,614,484
Billings over costs and estimated earnings			5,346,341		6,098,666
Amount due to shareholder			3,504,156		10,080,345
Other payables			9,864,960		9,360,314
Business and other taxes payable			4,734,098		4,923,771
Customers’ deposits			8,097,324		6,392,676
Other Accrual			6,034,195		4,324,011
Total current liabilities			71,311,022		77,324,147

The accompanying notes are an integral part of these financial statements.

4

CHINA ARCHITECTURAL ENGINEERING, INC.

CONSOLIDATED BALANCE SHEETS (Continued)

AS OF MARCH 31, 2010 (UNAUDITED) AND DECEMBER 31, 2009

(STATED IN US DOLLARS)

	Note	March 31, 2010			December 31, 2009
		(unaudited)
Non-current liabilities
Long term bank loans	(8)	$	89,850		$	109,239
Convertible bond payable, net	(9)		25,475,167			24,564,161
TOTAL LIABILITIES		$	96,876,039		$	101,997,547
STOCKHOLDERS’ EQUITY
Preferred stock, $0.001 par value, 10,000,000 shares authorized, 0 shares issued and outstanding at March 31, 2009 and December 31, 2009; Common stock, $0.001 par value, 100,000,000 shares authorized, 55,156,874 and 53,256,874 shares issued and outstanding at March 31, 2009 and December 31, 2009, respectively		$	55,157		$	53,257
Additional paid in capital			28,458,440			26,495,876
Statutory reserves			3,040,595			3,040,595
Accumulated other comprehensive income			3,986,558			3,868,437
Retained earnings			7,609,728			11,131,084
Total Company shareholders’ equity			43,150,478			44,589,249
Noncontrolling interests			(24,918	)		(26,389	)
Total shareholders’ equity			43,125,560			44,562,860
TOTAL LIABILITIES AND
STOCKHOLDERS’ EQUITY		$	140,001,599		$	146,560,407

The accompanying notes are an integral part of these financial statements.

5

CHINA ARCHITECTURAL ENGINEERING, INC.

UNAUDITED CONSOLIDATED STATEMENTS OF INCOME

FOR THE THREE-MONTH PERIODS ENDED MARCH 31, 2010 AND 2009

(STATED IN US DOLLARS)

		ThreeMonthsEndedMarch31,
	Note	2010			2009
Contract revenues earned	(10)	$	11,472,123		$	36,343,064
Cost of contract revenues earned			(9,144,193	)		(28,162,233	)
Gross profit		$	2,327,930		$	8,180,831
Selling, general and administrative expenses			(4,175,480	)		(5,951,030	)
Finance expenses			(47,201	)		-
Income / (Loss) from operations		$	(1,894,751	)	$	2,229,801
Interest income			2,416			3,706
Interest expense			(1,626,111	)		(1,311,733	)
Other income			7,514			21,837
Other expenses			(849	)		-
Income/(Loss) before taxation on Continuing Operations		$	(3,511,781	)	$	943,611
Income tax / tax benefit	(11)		9,575			-
Net earnings/(Loss) including non-controlling interest			(3,521,356	)		943.611
Loss attributable to non-controlling interests			1,471			-
Net earnings/(Loss) attributable to the Company		$	(3,519,885	)	$	943,611
Earnings per share:
Basic		$	(0.06	)	$	0.02
Diluted		$	(0.06	)	$	0.02
Weighted average shares outstanding:
Basic			54,729,908			53,256,874
Diluted			54,729,908			53,256,874

The accompanying notes are an integral part of these financial statements.

6

CHINA ARCHITECTURAL ENGINEERING, INC.

UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS

FOR THE THREE-MONTH PERIODS ENDED MARCH 31, 2010 AND 2009

(STATED IN US DOLLARS)

	ThreeMonthsEndedMarch31,
	2010			2009
Cash flows from operating activities
Net income/(loss)	$	(3,521,356	)	$	943,611
Noncontrolling interest		1,471			-
Depreciation expense		178,043			252,852
Bad debt expense		193,753			-
Amortization expense on intangible assets		10,623			22,000
Stock compensation expenses		1,964,464			-
Amortization expense on convertible bond		911,006			674,087
Loss/(Gain) on disposal of fixed assets		519			(11,450	)
Deferred income taxes		-			3,264
Decrease in inventories		565,153			17,441
Decrease in receivables		3,567,823			16,848,651
Decrease in other assets		790,817			980
Increase/(decrease) in payables		2,236,390			(14,489,451	)
Net cash provided by operating activities	$	6,898,706		$	4,261,985
Cash flows from investing activities
Purchases of assets	$	(439	)	$	(64,262	)
Proceeds from disposal of fixed assets		-			76,190
Decrease in restricted cash		1,009,739			1,320,226
Net cash provided by investing activities	$	1,009,300		$	1,332,154
Cash flows from financing activities
Repayment of short-term loans	$	(1,673,326	)	$	(4,542,187	)
Repayment of long-term loans		(19,389	)		(73,434	)
Repayment of shareholder loans		(6,576,189	)		(1,952,809	)
Net cash used in financing activities	$	(8,268,904	)	$	(6,568,430	)
Net decrease in cash and cash equivalents	$	(360,898	)	$	(974,291	)
Effect of foreign currency translation on cash and cash equivalents		118,121			257,501
Cash and cash equivalents - beginning of period		740,125			9,516,202
Cash and cash equivalents - end of period	$	497,348		$	8,799,412
Other supplementary information:
Cash paid during the period for:
Interest paid	$	1,260,000		$	120,000
Income tax paid	$	-		$	21,151

 The accompanying notes are an integral part of these financial statements.

7

CHINA ARCHITECTURAL ENGINEERING, INC.

UNAUDITED CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY

FOR THE PERIOD FROM JANUARY 1, 2010 TO MARCH 31, 2010

(STATED IN US DOLLARS)

	Total Number of shares		Common stock		Additional paid in capital		Statutory reserves		Accumulated other comprehensive income		Retained earnings			Noncontrolling interests			Total
Balance, January 1, 2010		53,256,874	$	53,257	$	26,495,876	$	3,040,595	$	3,868,437	$	11,131,084		$	(26,389	)	$	44,562,860
Net Loss including non-controlling interests												(3,521,356	)		1,471			(3,519,885	)
Additional paid-in capital from grant of stock option to employee						7,464												7,464
Value of stock grants to employees		1,900,000		1,900		1,955,100												1,957,000
Foreign currency translation adjustment										118,121								118,121
Total comprehensive income																		(1,437,300	)
Balance, March 31, 2010		55,156,874	$	55,157	$	28,458,440	$	3,040,595	$	3,986,558	$	7,609,728		$	(24,918	)	$	43,125,560

The accompanying notes are an integral part of these financial statements.

8

CHINA ARCHITECTURAL ENGINEERING, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE MONTH-PERIODS ENDED MARCH 31, 2010 AND 2009 (UNAUDITED)

(Stated in US Dollars)

1.  ORGANIZATION AND PRINCIPAL ACTIVITIES

China Architectural Engineering, Inc. (the “Company”) formerly SRKP 1, Inc., was incorporated in the State of Delaware, United States on March 16, 2004. The Company’s common stock was initially listed for trading on the American Stock Exchange on September 28, 2007.  The Company transferred its listing to The NASDAQ Stock Market LLC on June 10, 2008.

The Company through its subsidiaries conducts its principal activity as building envelope systems contractors, specializing in the design, engineering, fabrication and installation of curtain wall systems, roofing systems, steel construction systems and eco-energy saving building conservation systems, throughout China, Australia, Southeast Asia, the Middle East, and the United States.

The Company's work is performed under cost-plus-fee contracts, fixed-price contracts, and fixed-price contracts modified by incentive and penalty provisions. These contracts are undertaken by the Company or its wholly owned subsidiaries. The length of the Company's contracts varies but is typically about one to two years.

2.  SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

(a) Method of accounting

The Company maintains its general ledger and journals with the accrual method accounting for financial reporting purposes. The consolidated financial statements and notes are representations of management.  Accounting policies adopted by the Company conform to generally accepted accounting principles in the United States of America and have been consistently applied in the presentation of consolidated financial statements, which are compiled on the accrual basis of accounting.

(b) Consolidation

The consolidated financial statements include the accounts of the Company and its 14 subsidiaries. Significant inter-company transactions have been eliminated in consolidation. The consolidated financial statements include 100% of the assets and liabilities of these majority-owned subsidiaries, and the ownership interests of minority investors are recorded as noncontrolling interests.

The Company owned the subsidiaries through its reverse-merger on October 17, 2006 and through direct investments or acquisitions after October 17, 2006.  As of March 31, 2010, detailed identities of the consolidating subsidiaries are as follows:

Name of Company	Place of Incorporation	Attributable Equity interest %
Full Art International Limited	Hong Kong		100
Zhuhai King Glass Engineering Co., Ltd.	PRC		100
Zhuhai King General Glass Engineering Technology Co., Ltd.	PRC		100
King General Engineering (HK) Limited	Hong Kong		100
KGE Building System Limited	Hong Kong		100
KGE Australia Pty Limited	Australia		55
Zhuhai Xiangzhou District Career Training School	PRC		72
Techwell Engineering Limited	Hong Kong		100
Techwell International Limited	Macau		100
Techwell Building System (Shenzhen) Co., Ltd.	PRC		100
CAE Building Systems, Inc.	USA		100
China Architectural Engineering (Shenzhen) Co., Ltd.	PRC		100
Techwell International (SEA) Pte Ltd.	Singapore		100
CAE Building Systems (Singapore) Pte Ltd	Singapore		100

9

CHINA ARCHITECTURAL ENGINEERING, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE MONTH-PERIODS ENDED MARCH 31, 2010 AND 2009 (UNAUDITED)

(Stated in US Dollars)

(c) Use of estimates

The preparation of the consolidated financial statements in conformity with generally accepted accounting principles in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting periods. Management makes these estimates using the best information available at the time the estimates are made; however, actual results could differ materially from those estimates.

(d) Plant and equipment

Plant and equipment are carried at cost less accumulated depreciation.  Depreciation is provided over their estimated useful lives, using the straight-line method. Estimated useful lives of the plant and equipment are as follows:

Building	20 years
Machinery and equipment	5 - 10 years
Furniture and office equipment	5 years
Motor vehicle	5 years

The cost and related accumulated depreciation of assets sold or otherwise retired are eliminated from the accounts and any gain or loss is included in the statement of income. The cost of maintenance and repairs is charged to income as incurred, whereas significant renewals and betterments are capitalized.

(e) Accounting for the impairment of long-lived assets

The long-lived assets held and used by the Company are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of assets may not be recoverable. It is reasonably possible that these assets could become impaired as a result of technology or other industry changes.  Determination of recoverability of assets to be held and used is by comparing the carrying amount of an asset to future net undiscounted cash flows to be generated by the assets.

If such assets are considered to be impaired, the impairment to be recognized is measured by the amount by which the carrying amount of the assets exceeds the fair value of the assets. Assets to be disposed of are reported at the lower of the carrying amount or fair value less costs to sell.

During the reporting periods, there was no impairment loss.

(f) Goodwill and Intangible Assets

In accordance with ASC 350, “Goodwill and Other Intangible Assets.” the Company does not amortize goodwill or intangible assets with indefinite lives.

Upon indication that the carrying values of such assets may not be recoverable, the Company recognizes an impairment loss as a charge against current operations.

The Company performs an analysis on its goodwill balances to test for impairment on an annual basis and whenever events occur that indicate an impairment could exist. The amount of its goodwill is fully attributable to a subsidiary, Techwell Engineering Limited. There are several instances that may cause the Company to further test its goodwill for impairment between the annual testing periods including:  (i) continued deterioration of market and economic conditions that may adversely impact its ability to meet its projected results; (ii) declines in the Company’s stock price caused by continued volatility in the financial markets that may result in increases in its weighted-average cost of capital or other inputs to its goodwill assessment; (iii) the occurrence of events that may reduce the fair value of a reporting unit below its carrying amount, such as the sale of a significant portion of one or more of the Company’s reporting units. In the three month periods ended March 31, 2010, no instance indicates that an impairment could exist.

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CHINA ARCHITECTURAL ENGINEERING, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE MONTH-PERIODS ENDED MARCH 31, 2010 AND 2009 (UNAUDITED)

(Stated in US Dollars)

Material assumptions include:  (1) The reporting unit continues to have the profitable operations for a period of next 10 years; (2) the revenue has the steady annual growth rate ranging from 5% to 8% as in line with the estimated growth rate of PRC economy; (3) costs of funds kept stable for the period of next 10 years resulting in a stable discount rate for the projection of estimated fair value; and (4) no material change in the prevailing payment terms of the construction industry that allowing the working capital requirement kept at a low level at 15%.  Uncertainties include: (1)  The ability of the reporting unit to continue as a  profitable operation may be affected by changes in technologies and the market of the construction industry; (2) the growth of the PRC economy may not be as steady as projected that in turn affect the steady growth of the revenue of the reporting unit, (3) it is also uncertain about the capital market that affect the costs of fund of the company; and (4) the prevailing payment terms used in the construction industry may be changed as a result of changes in the business environment for the construction industry. Potential events include (1) the appreciation of the value of RMB that would slow down the export and in turn the economic development of China that in turn have negative effect of property development industry in China; and (2) the controlling policies towards the property market by the PRC government.

For other intangible assets, impairment tests are performed annually and more frequently whenever events or changes in circumstances indicate carrying values exceed estimated reporting unit fair values.

(g) Inventories

Inventories are raw materials, which are stated at the lower of weighted average cost or market value.

(h) Contracts receivable

Contracts receivable from performing construction of industrial and commercial buildings are based on contracted prices.  The Company provides an allowance for doubtful accounts, which is based upon a review of outstanding receivables, historical collection information, and existing economic conditions.

(i) Cash and cash equivalents

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

(j) Restricted cash

Restricted cash represents time deposit accounts to secure notes payable and bank loans.

(k) Earnings per share

The Company computes earnings per share (“EPS’) in accordance with ASC 260, “Earnings per Share”. ASC 260 requires companies with complex capital structures to present basic and diluted EPS. Basic EPS is measured as the income or loss available to common shareholders divided by the weighted average common shares outstanding for the period. Diluted EPS is similar to basic EPS but presents the dilutive effect on a per share basis of potential common shares (e.g., convertible securities, options, and warrants) as if they had been converted at the beginning of the periods presented, or issuance date, if later. Potential common shares that have an anti-dilutive effect (i.e., those that increase income per share or decrease loss per share) are excluded from the calculation of diluted EPS.

The calculation of diluted weighted average common shares outstanding for the three months periods ended March 31, 2010 and 2009 is based on the estimate fair value of the Company’s common stock during such periods applied to warrants and options using the treasury stock method to determine if they are dilutive. The Convertible Bond is included on an “as converted” basis when these shares are dilutive.

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CHINA ARCHITECTURAL ENGINEERING, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE MONTH-PERIODS ENDED MARCH 31, 2010 AND 2009 (UNAUDITED)

(Stated in US Dollars)

Components of basic and diluted earnings per share were as follows:

	Three Months Ended March 31,
	2010			2009
Net Income / (Loss)	$	(3,519,885	)	$	943,611
Basic Weighted Average Shares Outstanding		54,729,908			53,256,874
Dilutive Shares:
-     Addition to Common Stock from Conversion of Bonds		-			-
-     Addition to Common Stock from Exercise of Options and Warrants		-			-
Diluted Weighted Average Outstanding Shares:		54,729,908			53,256,874
Earnings Per Share
-     Basic	$	(0.06	)	$	0.02
-     Diluted	$	(0.06	)	$	0.02

(l) Revenue and cost recognition

Revenues from fixed-price and modified fixed-price construction contracts are recognized on the percentage-of-completion method, measured by the percentage of costs incurred to date to estimated total cost for each contract.

Contract costs include all direct material and labor costs and those indirect costs related to contract performance, such as indirect labor, supplies, tools, repairs, and depreciation costs.

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

Selling, general, and administrative costs are charged to expense as incurred.

Total estimated gross profit on a contract, being the difference between total estimated contract revenue and total estimated contract cost, is determined before the amount earned on the contract for a period can be determined.

The measurement of the extent of progress toward completion is used to determine the amount of gross profit earned to date and that the earned revenue to date is the sum of the total cost incurred on the contract and the amount of gross profit earned.

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CHINA ARCHITECTURAL ENGINEERING, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE MONTH-PERIODS ENDED MARCH 31, 2010 AND 2009 (UNAUDITED)

(Stated in US Dollars)

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

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

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

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

Change orders are common for the changes in specifications or design.  Contract revenue and costs are adjusted to reflect change orders approved by the customer and the contractor regarding both scope and price.  Recognition of amounts of additional contract revenue relating to claims is appropriate only if it is probable that the claim will result in additional contract revenue and if the amount can be reliably estimated.

(m) Income taxes

The Company uses the accrual method of accounting to determine and report its taxable reduction of income taxes for the year in which they are available.  The Company has implemented  ASC 740-270, Accounting for Income Taxes.

Income tax liabilities computed according to the United States, People’s Republic of China (PRC), Hong Kong SAR, Macau SAR and Australia tax laws are provided for the tax effects of transactions reported in the financial statements and consists of taxes currently due plus deferred taxes related primarily to differences between the basis of fixed assets and intangible assets for financial and tax reporting.  The deferred tax assets and liabilities represent the future tax return consequences of those differences, which will be either taxable or deductible when the assets and liabilities are recovered or settled.  Deferred taxes also are recognized for operating losses that are available to offset future income taxes.  A valuation allowance is created to evaluate deferred tax assets if it is more likely than not that these items will either expire before the Company is able to realize that tax benefit, or that future realization is uncertain.

In respect of the Company’s subsidiaries domiciled and operated in China and Hong Kong, the taxation of these entities can be summarized as follows:

· Zhuhai King Glass Engineering Co., Limited (“Zhuhai KGE”) and Zhuhai King General Glass Engineering Technology Co., Limited (“Zhuhai KGGET”) are located in Zhuhai and were subject to the PRC corporation income tax rate of 18% in 2008 and 20% in 2009. In accordance to China’s Enterprise Income Tax Law (“EIT Law”) effective from January 1, 2008, the tax rate for these two subsidiaries will be gradually increased to 25% by 2012.The Company anticipates that as a result of the EIT law, its income tax provision will increase, which could adversely affect Zhuhai KGE’s financial condition and results of operations.

· China Architectural Engineering (Shenzhen) Co., Ltd. is located in Shenzhen and is subject to the 20% income tax rate that will be gradually increased to the uniform rate of 25% by 2012 as according to the new EIT law.

· Full Art International Limited, King General Engineering (HK) Limited, and KGE Building System Limited are subject to the Hong Kong profits tax rate of 16.5%.

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CHINA ARCHITECTURAL ENGINEERING, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE MONTH-PERIODS ENDED MARCH 31, 2010 AND 2009 (UNAUDITED)

(Stated in US Dollars)

· Techwell Engineering Limited is subject to a Hong Kong profits tax rate of 16.5%. Techwell International Limited is a Macau registered company and therefore is subject to Macau profits tax rate of 12%.  Techwell Building System (Shenzhen) Co. Limited is located in Shenzhen and is subject to PRC corporate income tax rate of 20% that will be gradually increased to the uniform rate of 25% by 2012 as according to the new EIT law.

· KGE Australia Pty Limited is subject to a corporate income tax rate of 30%.

The Company is subject to United States Tax according to Internal Revenue Code Sections 951 and 957.

The Company, after a reverse-merger on October 17, 2006, revived to be an active business enterprise because of the operations with subsidiaries in the PRC and Hong Kong.  Based on the consolidated net earnings for the year ended December 31, 2009, the Company shall be taxed at the 35% tax rate.

Techwell Engineering Limited has established a branch in Dubai, which has zero corporate income tax rate except on oil companies and bank.

Subsidiaries in Singapore are subject a effective corporate income tax rate of 8.5% on taxable income amount in excess of Singapore dollar $100,000.

(n) Advertising

The Company expensed all advertising costs as incurred. Advertising expenses included in selling expenses were $nil and $10,973 for the three-month periods ended March 31, 2010 and 2009, respectively.

(o) Research and development

All research and development costs are expensed as incurred. Research and development costs included in general and administrative expenses were $nil and $2,926 for the three-month periods ended March 31, 2010 and 2009, respectively.

(p) Retirement benefits

Retirement benefits in the form of contributions under defined contribution retirement plans to the relevant authorities are charged to the statements of income as incurred.

14

CHINA ARCHITECTURAL ENGINEERING, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE MONTH-PERIODS ENDED MARCH 31, 2010 AND 2009 (UNAUDITED)

(Stated in US Dollars)

(q) Foreign currency translation

The accompanying consolidated financial statements are presented in United States Dollars (US$). The Company’s functional currency is the US$, while certain domestic subsidiaries’ use the Renminbi (RMB) and Hong Kong and overseas subsidiaries use local currencies as their functional currency.   The consolidated financial statements are translated into US$ from RMB, Hong Kong Dollars (HKD), United Arab Emirate Dirham (AED) and other local currencies at March 31, 2010 exchange rates as to assets and liabilities and average exchange rates as to revenues and expenses. Capital accounts are translated at their historical exchange rates when the capital transactions occurred.

	March 31, 2010		December 31, 2009		March 31, 2009
Period end RMB : US$ exchange rate		6.8361		6.8372		6.8349
Average quarterly RMB : US$ exchange rate		6.8360		6.8331		6.8360

	March 31, 2010		December 31, 2009		March 31, 2009
Period end HKD : US$ exchange rate		7.7647		7.7551		7.7506
Average quarterly HKD : US$ exchange rate		7.7639		7.7518		7.7542

	March 31, 2010		December 31, 2009		March 31, 2009
Period end AED : US$ exchange rate		3.6739		3.6738		3.6700
Average quarterly AED : US$ exchange rate		3.6736		3.6710		3.6700

The RMB is not freely convertible into foreign currency and all foreign exchange transactions must take place through authorized institutions.  No representation is made that the RMB amounts could have been, or could be, converted into US$ at the rates used in translation.

(r) Statutory reserves

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

(s) Comprehensive income

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

15

CHINA ARCHITECTURAL ENGINEERING, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE MONTH-PERIODS ENDED MARCH 31, 2010 AND 2009 (UNAUDITED)

(Stated in US Dollars)

(t) Recent accounting pronouncements

In June 2009, FASB issued FASB Statement No. 166, Accounting for Transfers for Financial Assets (FASB ASC 860 Transfers and Servicing ) and FASB Statement No. 167 (FASB ASC 810  Consolidation ), a revision to FASB Interpretation No. 46 (Revised December 2003),  Consolidation of Variable Interest Entities  (FASB ASC 810 Consolidation ) .

Statement 166 is a revision to FASB Statement No. 140, Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities  (FASB ASC 860  Transfers and Servicing ) ,  and will require more information about transfers of financial assets, including securitization transactions, and where entities have continuing exposure to the risks related to transferred financial assets. It eliminates the concept of a “qualifying special-purpose entity,” changes the requirements for derecognizing financial assets, and requires additional disclosures. Statement No. 166 (FASB ASC 860  Transfers and Servicing ) must be applied as of the beginning of each reporting entity’s first annual reporting period that begins after November 15, 2009, for interim periods within that first annual reporting period and for interim and annual reporting periods thereafter. Earlier application is prohibited. This Statement must be applied to transfers occurring on or after the effective date.  The Company is still evaluating the impact of the above pronouncement.

Statement 167 is a revision to FASB Interpretation No. 46 (Revised December 2003), Consolidation of Variable Interest Entities  (FASB ASC 810  Consolidation ) ,  and changes how a reporting entity determines when an entity that is insufficiently capitalized or is not controlled through voting (or similar rights) should be consolidated. The determination of whether a reporting entity is required to consolidate another entity is based on, among other things, the other entity’s purpose and design and the reporting entity’s ability to direct the activities of the other entity that most significantly impact the other entity’s economic performance. Statement No. 167 (FASB ASC 810 Consolidation ) shall be effective as of the beginning of each reporting entity’s first annual reporting period that begins after November 15, 2009, for interim periods within that first annual reporting period, and for interim and annual reporting periods thereafter.  Earlier application is prohibited. The Company is still evaluating the impact of the above pronouncement.

(u) Stock-based compensation

Stock compensation accounting guidance (FASB ASC 718, “Compensation-Stock Compensation”) requires that the compensation cost related to share-based payment transactions be recognized in financial statements. That cost will be measured based on the grant date fair value of the equity or liability instruments issued. The stock compensation accounting guidance covers a wide range of share-based compensation arrangements including stock options, restricted share plans, performance-based awards, share appreciation rights and employee share purchase plans.

Stock compensation accounting guidance requires that compensation cost for all stock awards be calculated and recognized over the employees’ service period, generally defined as the vesting period. For awards with graded-vesting, compensation cost is recognized on a straight-line basis over the requisite service period for the entire award. A Black-Scholes model is used to estimate the fair value of stock options while the market price of the Corporation’s common stock at the date of grant is used for restricted stock awards.

On October 5, 2009, the Company granted options to purchase a total of 100,000 shares of its common stock to an executive officer.  The stock options vest at the rate of 10,000 shares per month, with the first vesting of 10,000 options occurring on November 27, 2009 and with the last vesting of 10,000 options ending upon the total vested being 100,000.  The Company uses the Black-Scholes option-pricing model to value stock option awards and expensed the stock-based compensation based on the vesting periods.  The fair value of these options was calculated using the following assumptions: (1) risk-free interest rates of 4%, (2) an expected life of 1 to 5 years, (3) expected volatility of 41%, (4) expected forfeitures of 0%, and (5) a dividend yield of 0%. Based on the foregoing, the value of the options is a total of $24,878 and for the three-month periods ended March 31, 2010, $7,464 was expensed related to the grant of these options.

16

CHINA ARCHITECTURAL ENGINEERING, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE MONTH-PERIODS ENDED MARCH 31, 2010 AND 2009 (UNAUDITED)

(Stated in US Dollars)

On January 18, 2010, the Board of Directors of the Company approved the issuance of a total of 1.9 million shares of restricted stock (the “Restricted Stock Grants”) to certain of its officers, directors, and key employees under the China Architectural Engineering, Inc. 2009 Omnibus Incentive Plan (the “Plan”), which was previously approved by our stockholders at the 2009 Annual Meeting of Stockholders.  As approved, the Restricted Stock Grants were subject to and contingent upon the Company’s filing of a registration statement on Form S-8 with the Securities and Exchange Commission, which occurred on January 21, 2010. As granted, the Restricted Stock Grants were set to vest such that ¼ would vest on March 31, 2010, ¼ would vest on June 30, 2010, ¼ would vest on September 30, 2010, and the remaining ¼ would vest on December 31, 2010, except for the Restricted Stock Grant for 200,000 shares of common stock that was made to a senior officer, which vested 100% upon the date of grant.  The vesting of the grants were subject to the terms and conditions of the Plan and the Restricted Stock Agreement entered into by and between the recipients and the Company.  In the first quarter of 2010, the Board of Directors of the Company accelerated vesting of the restricted stock awards such that all of the Restricted Stock Grants became fully vested immediately on March 9, 2010. The market price of the Company’s share closed on that date at $1.03. The transaction was recognized in accordance with the FASB ASC 718, Compensation-Stock Compensation and the value of the grants is a total of $1,957,000 as the stock compensation expense.

3.  CONTRACT RECEIVABLES

	March31,2010			December31, 2009
Contract receivables	$	91,340,006		$	95,831,489
Less: Allowance for doubtful accounts		(3,058,512	)		(6,642,386	)
Net	$	88,281,494		$	89,189,103

Allowance for Doubtful Accounts	March 31, 2009			December 31, 2009
Beginning balance	$	6,642,386		$	5,215,701
Add: Allowance created		193,752			1,426,685
Less: Written off of receivables		(3,777,626	)		-
Ending balance	$	3,058,512		$	6,642,386

17

CHINA ARCHITECTURAL ENGINEERING, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE MONTH-PERIODS ENDED MARCH 31, 2010 AND 2009 (UNAUDITED)

(Stated in US Dollars)

4.  OTHER RECEIVABLES

Other receivables consisted of the following:

	March 31, 2010		December 31, 2009
Due from sellers of Techwell, the subsidiary (1)	$	11,112,555	$	11,333,253
Due from Kangbao Electrical Company Limited (Kangbao) , a related party  (2)		847,135		6,054,905
Drawdown of advance payment and performance bonds by client of the projects in Dubai (3)		9,402,757		9,414,397
Other related parties receivables		-		253,638
Deposits for site operations of projects in PRC		3,986,828		2,903,171
Other		471,951		808,703
Total	$	25,821,226	$	30,768,067

(1) On November 6, 2007, the Company, through Full Art International, Ltd. (“Full Art”), acquired all of the issued and outstanding shares in the capital of Techwell Engineering Limited, a limited liability company incorporated in Hong Kong (“Techwell”) pursuant to a Stock Purchase Agreement (the “Agreement”) dated November 6, 2007, entered into by and among Ng Chi Sum and Yam Mei Ling (each a “Shareholder” and collectively, the “Shareholders”), the Company and Full Art.  Pursuant to the terms and conditions of the Agreement, the Shareholders agreed that each of them would pay any and all accounts receivables of Techwell if not paid by the customers within 24 months of the acquisition date.  The 24 month period has expired and a total of $9,909,130 is due and payable from the Shareholders. The amount is included in the other receivable due from sellers of Techwell.

(2) The amount mainly represents the purchases advances to Kangbao Electrical Company Limited (Kangbao) for the supplies of materials for the projects of the Company.

(3) The Company believes that the client of the Dubai projects did not have proper grounds for the drawdown of the advance payment and performance bonds which the company issued for the projects.  The Company also believes that the client should not be entitled to the drawdown and is now proceeding the claim back of the amount.

5.  INVENTORIES

	March31,2010		December31, 2009
Raw materials at sites	$	162,346	$	727,499

18

CHINA ARCHITECTURAL ENGINEERING, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE MONTH-PERIODS ENDED MARCH 31, 2010 AND 2009 (UNAUDITED)

(Stated in US Dollars)

6.  PLANT AND EQUIPMENT

Plant and equipment consist of the following as of:

	March31,2010		December31,2009
At cost
Motor vehicle	$	1,242,453	$	1,242,928
Machinery and equipment		2,383,096		2,381,755
Furniture, software and office equipment		1,794,223		1,795,595
Building		-		-
Leasehold improvement		266,773		267,038
	$	5,686,545	$	5,687,316
Less: Accumulated depreciation
Motor vehicle	$	868,277	$	825,536
Machinery and equipment		1,465,385		1,420,536
Furniture, software and office equipment		882,047		804,516
Building		-		-
Leasehold improvement		109,502		97,271
	$	3,325,211	$	3,147,859
	$	2,361,334	$	2,539,457

Depreciation expenses included in the selling and administrative expenses for periods ended March 31, 2010 and 2009 were $178,043 and $252,852, respectively.

7.  INTANGIBLE ASSETS

	March 31, 2010		December 31, 2009
At cost
Intangible Assets	$	98,673	$	98,673
Less: Accumulated amortization		38,686		28,063
	$	59,987	$	70,610

19

CHINA ARCHITECTURAL ENGINEERING, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE MONTH-PERIODS ENDED MARCH 31, 2010 AND 2009 (UNAUDITED)

(Stated in US Dollars)

8.  LOANS

A. SHORT-TERM BANK LOANS

	March 31, 2010		December 31, 2009
ABN Amro N.V. Overdraft in Current Account at interest rate at 6.5% per annum	$	3,238,656	$	4,906,266
ABN Amro N.V. Temporary Loan for the drawing of performance and advance payment bonds at interest rate at Bank's Cost of Fund + 6%		4,540,883		4,546,504
Automobile capital lease obligation (hire purchase),amount due within one year, last installment due November 9, 2012		77,015		77,110
	$	7,856,554	$	9,529,880

B. LONG-TERM BANK LOANS

	March 31, 2010		December 31, 2009
Automobile capital lease obligation (hire purchase),amount due after one year, last installment due November 9, 2012		89,850		109,239
	$	89,850	$	109,239

Full Art International Limited borrowed a hire purchase (car) loan from DBS Bank.

20

CHINA ARCHITECTURAL ENGINEERING, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE MONTH-PERIODS ENDED MARCH 31, 2010 AND 2009 (UNAUDITED)

(Stated in US Dollars)

9.  CONVERTIBLE BONDS AND BOND WARRANTS

(a)  $10,000,000 Variable Rate Convertible Bonds due in 2012

On April 12, 2007, the Company completed a financing transaction with The Royal Bank of Scotland, London Branch (formerly “ABN AMRO N.V., London Branch) (the “Subscriber”) issuing (i) $10,000,000 Variable Rate Convertible Bonds due in 2012 (the “Bonds”) and (ii) 800,000 warrants to purchase an aggregate of 800,000 shares of the Company’s common stock, subject to adjustments for stock splits or reorganizations as set forth in the warrant, that expire in 2010 (the “Warrants”).

On September 29, 2008, the Subscriber converted $2,000,000 into 571,428 shares at the conversion price of $3.50 per share. As of March 31, 2009, the face value of the bonds outstanding was $8,000,000.

Effective from April 12, 2009, the conversion price has been reset to $2.45, which is 70% of $3.50 as the average closing price of the Company’s shares for the period of 20 consecutive trading days immediately prior to April 12, 2009 was $0.94.  The reset of the conversion price resulted in additional $3.4 million of bonds discount and will be amortized over the remaining outstanding periods of the bonds.

On November 8, 2008, the Subscriber exercised all the 800,000 warrants into 800,000 shares at the exercise price of $0.01 per share.

(b) $20,000,000 12% Convertible Bonds due in 2011

On April 15, 2008, the Company completed a financing transaction with the Subscriber, CITIC Allco Investments Limited (the “Subscribers,” and each a “Subscriber”), and CITIC Capital Finance Limited issuing (i) $20,000,000 12% Convertible Bonds due in 2011 (the “Bonds”) and (ii) 300,000 warrants to purchase an aggregate of 300,000 shares of the Company’s common stock, subject to certain adjustments as set forth in the warrant instrument, that expire in 2013 (the “Bond Warrants”). The transaction was completed in accordance with a subscription agreement entered into by the Company, Subscribers, and CITIC Capital Finance Limited, dated April 2, 2008 (the “Subscription Agreement”).

The above items (a) and (b) are to be amortized to interest expense over the term of the bonds by the effective interest method as disclosed in the table below.

The Convertible Bonds Payable, net consists of the following:

	March 31, 2010			December 31, 2009
Convertible Bonds Payable	$	28,000,000		$	28,000,000
Less: Interest discount – Warrants		(3,305,938	)		(3,305,938	)
Less: Interest discount – Beneficial conversion feature		(1,882,404	)		(1,882,404	)
Less: Bond discount		(760,069	)		(760,069	)
Accretion of interest discount		3,423,578			2,512,572
Net	$	25,475,167		$	24,564,161

21

CHINA ARCHITECTURAL ENGINEERING, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE MONTH-PERIODS ENDED MARCH 31, 2010 AND 2009 (UNAUDITED)

(Stated in US Dollars)

The Company has failed to make interest payments as originally agreed upon under the Bonds, as follows:

$10,000,000 Variable Rate Convertible Bonds due in 2012
Interest for 6 months from April to October 2009, due October 4, 2009	$	120,000
$20,000,000 12% Convertible Bonds due in 2011
Interest for 6 months from October 2008 to April 2009, due April 15, 2009	$	1,200,000
Interest for 6 months from April 2009 to October 2009, due October 15, 2009		1,200,000
Total missed interest payments:	$	2,520,000

(c)  Waiver of Conversion Price Adjustment on Convertible Bonds

On February 24, 2010, the Company entered into an Amendment and Waiver Agreement (the “Waiver”) with the holders of its Bonds and warrants to purchase 300,000 shares of common stock of the Company expiring 2013 (the “2008 Warrants”). Pursuant to the Waiver, the holders of the Bonds and the 2008 Warrants agreed to waive their right to a reduction in the conversion price of the Bonds and the exercise price of the 2008 Warrants upon the Company’s anticipated issuance of up to 25,000,000 shares of its common stock (the “Shares”) for a proposed acquisition of a 60% ownership interest in Shanghai ConnGame Network Co. Ltd. (“ConnGame”). Additionally, the holders of the 2008 Bonds agreed to waive any default under the terms and conditions of the trust deed governing the 2008 Bonds relating to the requirement that KGE Group Limited own at least 45% of the Company’s issued and outstanding common stock.

The Waiver is subject to numerous conditions. The Company agreed to pay the Bondholders the interest in arrears owed on the Bonds as of March 31, 2010 in two equal payments on March 31, 2010 and May 31, 2010 of approximately $1.26 million USD each and to pay 100% of the interest payments on the Bonds that becomes due in April to be paid on April 15, 2010 of approximately $1.32 million USD. The foregoing interest payments, in aggregate, are equal to approximately $3.84 million USD. The Company also agreed to repay the principal and all accrued interest owed by the Company to ABN AMRO Bank (China) Co., Ltd., Shenzhen Branch (the “Overdraft Lender”) under an Overdraft Facility letter (the “Total Amount Owed”) in three separate installments. The first installment is due on the earlier of (a) within 30 days of the Company’s receipt of a payment, if any, in respect to a .claim in Dubai or (b) March 31, 2010. The second installment is due on April 30, 2010 and the third installment is due on May 31, 2010. The first installment equals 34% of the Total Amount Owed and the second and third installments each equal 33% of the Total Amount Owed. The Total Amount Owed is equal to approximately $4.91 million USD. The Company further agreed that it will not repay or prepay any debt prior to its currently scheduled due date until the Company makes all of the payments specified in the Waiver and the Bonds have been redeemed in full and that any new indebtedness incurred by the Company for the purpose of repaying the Overdraft Facility shall (i) not exceed the outstanding amount due and payable under the Overdraft Facility and (ii) be subordinated to all amount owed under the Bonds (the “Covenants”).  The Company paid USD1,260,000 of the outstanding amount as of March 31, 2010 in accordance with the Waiver.

In addition, the Company entered into an Amendment and Waiver Agreement with the Bondholders on August 6, 2009 pursuant to which the Bondholders agreed to extend interest payments under the Bonds.  The Company then entered into another Amendment and Waiver Agreement with the Bondholders, other creditors and other interested parties as specified in the agreement dated February 24, 2010 pursuant to which that the Bondholders extended the payment of overdue interest of $2,520,000 to March 31, 2010 and April 15, 2010.  The convertible bonds are classified as long term debt due to the waivers, but the Company may be required to reclassify the bonds as a current liability if the Company is not required to the covenants that must be met under the Bonds.  The Company may be required to reclassify the Bonds as a current liability if (i) a covenant violation that gives the bondholders the right to call the debt has occurred at the balance sheet date or would have occurred absent a loan modification, and (ii) it is probable that the Company will not be able to cure the default (comply with the covenant) at measurement dates that are within the next 12 months. The Company believed that it is not probable that the Company will not be able to cure the default at measurement dates that are within the next 12 months.

22

CHINA ARCHITECTURAL ENGINEERING, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE MONTH-PERIODS ENDED MARCH 31, 2010 AND 2009 (UNAUDITED)

(Stated in US Dollars)

10.  CONTRACT REVENUES EARNED

The contract revenues earned for the three-month periods ended March 31, 2010 and 2009 consist of the following:

	March 31, 2010		March 31, 2009
Billed	$	10,173,136	$	28,279,372
Unbilled		1,298,987		8,063,692
	$	11,472,123	$	36,343,064

The unbilled contract  revenue  earned  represents  those  revenue  that  should  be  recognized according to the percentage of completion method for accounting for construction contract because the Company is entitled to receive payment from the customers for the amount of work that has been  rendered to and  completed  for  that  customer according  to  the  terms  and  progress  being made as stipulated under that contract between the Company and that customer. As an industrial practice, there are certain procedures that need to be performed, such as project account finalization, by both the customer and the Company before the final billing is issued; however this does not affect the Company’s  recognition of revenue and respective cost according to the terms of the contract with the consistent application of the percentage-of-completion method.

A single customer accounted for 40.4% of the Company’s contract revenues for the three months ended March 31, 2010. No other customer accounts for 10% or more of the Company’s contract revenues in the period.

11.  INCOME TAXES

On October 17, 2006, income from the Company’s foreign subsidiaries became subject to U.S. income tax liability; however, this tax is deferred until foreign source income is repatriated to the Company, which has not yet occurred.

The Company has also retained an U.S. tax-preparer firm to aide in preparation of its U.S. income tax returns in order to maintain a high level of compliance with U.S. tax laws.

Effective January 1, 2008, the PRC income tax rules were changed.  The PRC government implemented a new 25% tax rate for all enterprises whether domestic or foreign enterprise, and abolished the tax holiday.

23

CHINA ARCHITECTURAL ENGINEERING, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE MONTH-PERIODS ENDED MARCH 31, 2010 AND 2009 (UNAUDITED)

(Stated in US Dollars)

Income before taxes and the provision for taxes for the periods ended March 31, 2010 and 2009 consists of the following:

	March 31,
	2010			2009
Continuing income before taxes:
U.S.	$	(4,093,545	)	$	(2,025,063	)
Singapore		(388	)		(651	)
China		356,519			(1,881,006	)
Australia		(3,100	)		(3,673	)
Hong Kong		(140,794	)		(672,728	)
Dubai		371,631			5,568,937
Macau		(2,104	)		(42,205	)
Total continuing income before taxes		(3,511,781	)		943,611
Provision for taxes expense/(benefit):
Current:
U.S. Federal		-			-
U.S. State		9,575			-
		9,575			-
Deferred:
U.S. Federal		9,575			-
Hong Kong		-			-
Currency Effect		-			-
Total provision for taxes		9,575			-
Effective tax rate		-0.29	%		0.00	%

24

CHINA ARCHITECTURAL ENGINEERING, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE MONTH-PERIODS ENDED MARCH 31, 2010 AND 2009 (UNAUDITED)

(Stated in US Dollars)

Deferred income taxes reflect the net tax effects of temporary differences between the carrying amount of assets and liabilities for financial reporting purposes and the amounts for income tax purposes. Significant components of our deferred tax assets and liabilities at March 31, 2010 and December 31, 2009 are as follows:

	March 31, 2010		December 31, 2009
Deferred tax assets
Net operating loss	$	112,893	$	113,033
		112,893		113,033
Valuation allowance		-		-
Total deferred tax assets		112,893		113,033
Deferred tax liabilities
Total deferred tax liabilities		-		-
Net deferred tax assets		112,893		113,033
Reported as:
Current deferred tax assets		112,893		113,033
Non-current deferred tax assets		-		-
Non-current deferred tax liabilities		-		-
Net deferred taxes	$	112,893	$	113,033

Current deferred tax assets represents net operating loss of a subsidiary Techwell Engineering Limited in Hong Kong. The losses can be carried forward to set-off future assessable profits in Hong Kong without expiry date. The differences between the U.S. federal statutory income tax rates and the Company’s effective tax rate for the periods ended March 31, 2010 and 2009 is shown in the following table:

	2010			2009
U.S. federal statutory income tax rate		34.00	%		34.00	%
Lower rates in PRC, net		-9.00	%		-9.00	%
Accruals in foreign jurisdictions		-0.29	%		-0.00	%
Tax Holiday		-25.00	%		-25.00	%
		-0.29	%		0.00	%

25

CHINA ARCHITECTURAL ENGINEERING, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE MONTH-PERIODS ENDED MARCH 31, 2010 AND 2009 (UNAUDITED)

(Stated in US Dollars)

The following table accounts for the differences between the actual tax provision and the amounts obtained by applying the relevant applicable corporation income tax (see tax rates discussed above) before tax for the periods ended March 31, 2010 and 2009:-

	2010			2009
Income/(loss) before tax		(3,511,781	)		943,611
Taxes at the applicable income tax rates		9,558			-
Miscellaneous non taxable income		17			-
and non-deductible expenses
Current income tax expense	$	9,575		$	-

Effective January 1, 2008, the PRC government implemented a new 25% tax rate across the board for all enterprises regardless of whether domestic or foreign enterprise without any tax preferences which is defined as “two-year exemption followed by three-year half exemption” enjoyed by tax payers. As a result of the tax law, a standard 15% tax preference terminated as of December 31, 2007. The PRC government has established a set of transition rules to allow enterprises using tax preferences before January 1, 2008 to continue using the tax preferences on a transitional basis until being the new tax rates are fully implemented over a five year period.

12. COMMITMENTS AND CONTINGENCIES

(a) Operating lease commitments

The Company leases certain administrative and production facilities from third parties.  Accordingly, for the three-month periods ended March 31, 2010 and 2009, the Company incurred rental expenses of $267,036 and $829,465 respectively.

The Company has commitments with respect to non-cancelable operating leases for these offices, as follows:

For the 12 months ending March 31,
2011		716,481
2012		-
2013		-
2014 or after		-
	$	716,481

(b) Pending Litigation

  Techwell litigation

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

26

CHINA ARCHITECTURAL ENGINEERING, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE MONTH-PERIODS ENDED MARCH 31, 2010 AND 2009 (UNAUDITED)

(Stated in US Dollars)

On January 14, 2009, the board of directors of Techwell passed a board resolution, to dismiss both Mr. Ng and Miss Yam with immediate effect and remove Mr. Ng from the board of Techwell (the “Resolution”). On January 16, 2009, Mr. Ng and Miss Yam filed a lawsuit in the High Court of Hong Kong against the Company and its subsidiary, Full Art International Limited. The lawsuit alleges that, inter alia, (i) the Company misrepresented to them the financial status of the Company and operations during the course the acquisition of Techwell was being negotiated; (ii) the Company failed to perform its obligations under a settlement agreement alleged to be agreed by the Company in January 2009; and (iii) the dismissal of Mr. Ng was unlawful and invalid. The lawsuit filed by Mr. Ng and Miss Yam requests the court for specific performance of the settlement agreement that was allegedly entered into, which would require the return of the Techwell company to Mr. Ng and Miss Yam, and in the absence of such grant of relief, Mr. Ng and Miss Yam request unspecified damages lieu of return of the Techwell company.

On January 23, 2009 an ex-parte injunction order was granted to Mr. Ng, restraining the Company from implementing the Resolution, which was eventually dismissed with immediate effect on February 25, 2009 after a court session in the High Court of Hong Kong. Mr. Ng was also ordered to bear the costs of the various court proceedings in connection with the said injunction order. On March 27, 2009, Mr. Ng and Miss Yam filed a summons in the High Court of Hong Kong seeking a court order for leave to join the Company’s principal shareholder, KGE Group Limited, as a defendant of the said lawsuit, which was granted on April 9, 2009. As a result, KGE Group Limited became one of the defendants of the lawsuit. On May 12, 2009, the Company filed a Defense and Counterclaim at the High Court of Hong Kong in response to a Statement of Claim served by Mr. Ng and Miss Yam on the Company on April 7, 2009.

The Company intends to vigorously defend this pending lawsuit; however, no assurance can be given that the lawsuit will be resolved in the Company’s favor. Even if the Company successfully defends the lawsuit, the Company may incur substantial costs defending or settling the lawsuit, in addition to a possible diversion of the time and attention of the Company’s management from its business. If the Company is unsuccessful in defending the lawsuit, its may be required to pay a significant amount of damages and/or it may potentially lose ownership of Techwell, which will have a material adverse effect on the Company’s business, financial condition or results of operations. In the last quarter of 2009, Mr. Ng made a settlement proposal to the Company for consideration and the Company is negotiating the settlement agreement with Mr. Ng as of March 31, 2010.

Dubai Metro Rail Project Dispute

On September 9, 2009, the Red Line, or first phase, of the Dubai Metro was officially opened. The Company, through its subsidiary, had been working towards completion of its external envelopes for stations along the Red Line of the Dubai Metro System.  According to the Company’s original construction blueprint, the majority of its construction work was completed at the end of June 2009, and final construction milestones were scheduled for completion in the third quarter of 2009.  With less than 5% of its contract remaining to be completed, Techwell was removed by the master contractor of the project, which also called for and received payment of $2.1 million in performance bonds and $7.3 million in advance payment bonds that were issued on Techwell's behalf for the project. The calling of the advance payment bonds was based on the master contractor's belief that it had paid in excess of the construction work performed.  The Company and certain of its subsidiaries are guarantor of the bonds that were paid by the banks, and the Company is liable under the guarantee agreements for such amounts paid by the banks.  The Company does not believe that the master contractor had a proper basis for calling the bonds and intend to vigorously defend all of its legal rights and remedies related to the dispute.  The Company has engaged a construction claims consultant to facilitate resolution of the dispute.  The Company and its construction claims consultant, based on a review of the facts, documents, and materials available, believes that it has a reasonable opportunity to collect the amounts due to Techwell from the master contractor, less appropriate credits as its final amount due for work performed through September 2009.  The Company, with the assistance of its claims consultant, will continue to evaluate the dispute and probability of success on this dispute going forward and make the appropriate adjustments; however, no assurance can be given that the dispute will be resolved in the Company’s and Techwell’s favor. The Company’s counsel in Dubai is preparing the legal documents for the claims as of March 31, 2010.

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CHINA ARCHITECTURAL ENGINEERING, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE MONTH-PERIODS ENDED MARCH 31, 2010 AND 2009 (UNAUDITED)

(Stated in US Dollars)

13. RELATED PARTIES TRANSACTIONS

The account balance with shareholders at March 31, 2010 was payables of $3,504,156, while at December 31, 2009 it was $10,080,345. The payables balance was mainly loans from the largest shareholder, with such loans being interest-free, fee-free and has no fixed repayment schedule.

During the three months period ended March 31, 2010, the Company purchased construction materials amounting to $0.3 million from Guangdong Canbo Electrical Co., Ltd. (Canbo), a subsidiary of the Company’s major shareholder, KGE Group Limited. Canbo is a preferred supplier of the Company as it is able to procure materials at favorable price levels due to its purchased quantities. More important, application of certain of the Company’s patented technology is preferably routed through Canbo to prevent undesired distribution of this technology. The Company at times provides advance payment to Canbo in order to obtain a more favorable pricing. As of March 31, 2010, the Company’s advance to Canbo was $0.8 million.

The transactions with related parties during the periods were carried out in the ordinary course of business and on normal commercial terms.

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

Forward-Looking Statements

The following discussion should be read in conjunction with our consolidated financial statements and related notes included elsewhere in this quarterly report and the audited consolidated financial statements and related notes and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” contained in our annual report on Form 10-K for the year ended December 31, 2009.

This quarterly report contains forward-looking statements that involve substantial risks and uncertainties.  The words “anticipated,” “believe,” “expect, “plan,” “intend,” “seek,” “estimate,” “project,” “could,” “may,” and similar expressions are intended to identify forward-looking statements. These statements include, among others, information regarding future operations, future capital expenditures, and future net cash flow. Such statements reflect our management’s current views with respect to future events and financial performance and involve risks and uncertainties, including, without limitation, identification and remediation of the Company's deficiencies and weaknesses in its internal controls over financial reporting, potential claims or litigation that may result from the occurrence of restatements, the negotiation and execution of a definitive acquisition agreement for the proposed acquisition of ConnGame and satisfactory completion of related due diligence and closing conditions, including but not limited to regulatory approvals; ability to identify and secure debt, equity, and/or other financing required to continue the operations of the Company, particularly in the event that the Company is not able to conduct the proposed acquisition of ConnGame; required Company payments under the waiver agreement and ability to obtain an extension; difficulties related to integration and management of the combined operations; reduction or reversal of the Company's recorded revenue or profits due to "percentage of completion" method of accounting and expenses; the Company's ability to obtain a modification for the Waiver agreement with the bondholders applicable to the proposed acquisition of ConnGame; increasing provisions for bad debt related to the Company's accounts receivable; fluctuation and unpredictability of costs related to our products and services; the Company's plans to enter into real estate development projects such as the Nine Dragons Project; adverse capital and credit market conditions; fluctuation and unpredictability of costs related to the Company's products and services; expenses and costs associated with its convertible bonds, regulatory approval requirements and competitive conditions; and various other matters, many of which are beyond our control.  Actual results may vary materially and adversely from those anticipated, believed, estimated or otherwise indicated should one or more of these risks or uncertainties occur or if any of the risks or uncertainties described elsewhere in this report or in the “Risk Factors” section of our 2009 annual report occur.  Consequently, all of the forward-looking statements made in this report are qualified by these cautionary statements and there can be no assurance of the actual results or developments.

Overview

We have traditionally specialized in high-end curtain wall systems (including glass, stone and metal curtain walls), roofing systems, steel construction systems, eco-energy saving building conservation systems and related products, for public works and commercial real estate projects.   We compete on the strength of our reputation, relationships with government and commercial clients, and our ability to give expression to the vision of leading architects.

The recent trends in the global economy have had a significant adverse impact on the commercial construction industry as a whole. As a result, the competitive environment in which we operate has become more competitive, increasing the number of re-bid construction projects and amount of time between bidding and award of a project, reducing selling prices, and causing competitors to modify the scope and type of projects on which they bid.  In 2008 we increased the number of international construction projects, but in 2009 the spread of the global recession and reduction in the nature and scope of international construction projects has led us to primarily focus our attention on domestic projects in China.  Dubai, Doha, Kuwait and other middle east region have been suffered a great impact markedly under the global financial crisis.  Our projects suffered a certain degree of impact as well.  During 2009, we have experienced a decrease in the project turnover and an increase in costs and delays in customer payments. As a result, our results of operations have suffered.  However, we conducted our Dubai and Doha Projects construction under the original schedule, and executed the design for Kuwait project.  After the completion of “soft-open” of Dubai Metro Rail Project in September 2009, the contractor called bonds and refused to sign and pay for the project payments, which have resulted in a cash flow difficulties for our company.  As described below, we dispute the contractor’s rights to call the bonds and seeking remedies for its actions.  In addition, after a thorough review and analysis of the feasibility and profitability of the Singapore Project, we determined that it was in the best interests of our company to withdraw from the project.

We do not believe that the international economy will experience a swift recovery in the near future and therefore its negative impact on construction industry still exists and will exist in the near future.  As a result, we suspended the orders of the construction of international projects, and shifted the focus of our business to design and professional consulting services. We have taken steps to continue our development and research of new technologies and to maintain our company’s position in the industry.   To develop projects and generate revenue, we have sought to join new projects in the position of design and project consultant and the role of material supplier.

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In the past, the number and size of our international projects had been increasing, but during 2009 our management has moved to refocus our resources to projects in the mainland China.  During the second quarter of 2009, we decided to terminate our work on the project in Singapore and stop the guarantee related to the project. Our management reviewed and created updated forecasts for the project and concluded that there will be major differences between the design concept as originally contemplated and the final site structures. As a result, we decided to terminate our work on the project since we did not receive approval for our improvement proposal, and resources related to the project were moved to projects in China.

We believe that the Chinese market has faired much better than most of the international markets.  With the strength of our reputation and history of notable projects in China, we are focusing our resources and efforts in our domestic market.   We believe that we have long-standing relationships with leading Chinese and international architects, having completed high profile projects in China.  During the year 2009, we commenced certain landmark projects in China, which consisted of the Changsha Train Station, Changsha Museum, Guangzhou Science Town, and projects in Jinan and Inner Mongolia.  These projects are expected to be completed in 2010.

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

Recent Events

Proposed Acquisition of 60% Equity Interest in ConnGame

In December 2009, we and First Jet entered into a letter of intent for the Acquisition (“Letter of Intent”) that set forth the principal terms under which we would issue up to 25,000,000 shares of our common stock to First Jet to acquire 60% of the equity interest of Shanghai ConnGame Network Co. Ltd., a company formed under the laws of the People’s Republic of China (“ConnGame”), which is a developer and publisher of MMORPG (Massively Multiplayer Online Role Playing Game).  In January 2010, our board of directors and stockholders approved our acquisition of a 60% equity interest in ConnGame.  We believe our acquisition of ConnGame will enable us to strengthen our core architectural engineering and design abilities, in addition to enabling us to enter China's large online game market, with ConnGame’s two to-be-released MMORPG games.  We believe that the online game industry and its related business model will be a growing market in China.

Pursuant to the terms of the Letter of Intent, we would issue the total 25,000,000 shares of common stock to First Jet if an independent valuation firm determined that the value of ConnGame was equal or greater to $50 million.  We received an appraisal report dated January 17, 2010 from Shanghai Xinda Asset Appraisal Co., Ltd.  According to the appraisal, subject to its assumptions and limitations, the fair market value of ConnGame on January 15, 2010 was approximately $52 million (RMB 357 million), based on a discounted cash flow model.  In addition, the proposed acquisition and the issuance of the shares will be subject to numerous closing conditions, including the execution of a waiver of reduction to conversion price of our outstanding Bonds or exercise price of the 2008 Warrants.  As described below, we and the bondholders, in addition to other parties, entered into a waiver agreement on February 24, 2010.

Upon the consummation of the acquisition, if and when it shall occur, it is anticipated that Luo Ken Yi will resign as Chairman of the Board of Directors.  Mr. Luo will remain as a member of the Board.  Upon Mr. Luo’s resignation as the Chairman of the Board, the Board will appoint Mr. Jun Tang, the sole shareholder of First Jet, as Chairman of the Board.  Mr. Jun Tang, 47, currently serves as the President and Chief Executive Officer of New Huadu Group, Fujian.  From 2004 to 2008, Mr. Tang served as President of Shanghai SNDA (Nasdaq: SNDA), a interactive entertainment media company in China.  Prior to that, he served as President of Microsoft China Co., Ltd from 2002 to 2004.  From 1997 to 2002, he served as General Manager of Microsoft Global Technical Engineering Center, and from 1994 to 1997 he served as Senior Project Manager for Microsoft US.    Mr. Tang received his doctorate degree, master’s degree and bachelor’s degree in the U.S., Japan and China, respectively.

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Completion of the proposed acquisition is subject to negotiation and execution of a definitive equity transfer agreement, regulatory approvals, and other customary closing conditions.  Therefore, there can be no guarantee that the acquisition will be consummated.

Wavier Agreement

On February 24, 2010, we entered into an Amendment and Waiver Agreement (the “Waiver Agreement”) with the holders of our outstanding Variable Rate Convertible Bonds due 2012 (the “2007 Bonds”) and 12% Convertible Bonds due 2011 (the “2008 Bonds,” and collectively with the 2007 Bonds, the “Bonds”) and warrants to purchase 300,000 shares of our common stock expiring 2013 (the “2008 Warrants”).  Pursuant to the Waiver Agreement, the holders of the Bonds and the 2008 Warrants agreed to waive their right to a reduction in the conversion price of the Bonds and the exercise price of the 2008 Warrants upon our anticipated issuance of up to 25,000,000 shares for the proposed acquisition of a 60% ownership interest in ConnGame.  Additionally, the holders of the 2008 Bonds agreed to waive any default under the terms and conditions of the trust deed governing the 2008 Bonds relating to the requirement that KGE Group Limited, our largest shareholder, own at least 45% of our issued and outstanding common stock.

The waivers contained in the Waiver Agreement are subject to numerous conditions.  We agreed to pay the Bondholders the interest in arrears owed on the Bonds as of March 31, 2010 in two equal payments on March 31, 2010 and May 31, 2010 of approximately $1.26 million each and to pay 100% of the interest payments on the Bonds that becomes due in April 2010 to be paid on April 15, 2010 of approximately $1.32 million, for aggregate payments of approximately $3.84 million.  We also agreed to repay the principal and all accrued interest that we owe to ABN AMRO Bank (China) Co., Ltd., Shenzhen Branch (the “Overdraft Lender”) under an Overdraft Facility letter in three equal separate installments. The total amount owed to the Overdraft Lender is equal to approximately $4.91 million. The first installment is due no later than March 31, 2010, the second installment is due on April 30, 2010 and the third installment is due on May 31, 2010.  We also agreed that we will not repay or prepay any debt prior to its currently scheduled due date until we make all of the payments specified in the Waiver Agreement and the Bonds have been redeemed in full and that any new indebtedness incurred by us for the purpose of repaying the Overdraft Facility will (i) not exceed the outstanding amount due and payable under the Overdraft Facility and (ii) be subordinated to all amount owed under the Bonds.   The Company paid USD1,260,000 of the outstanding amount as of March 31, 2010 in accordance with the Waiver.

If we fail to make any of the payments specified in the Waiver Agreement, then all rights of the holders of the Bonds and 2008 Warrants waived under the Waiver Agreement to or to be waived under the Waiver Agreement, will not be waived and will be reinstated, and any previous waivers will be null and void.  In such case, appropriate adjustments may be made to reduce the conversion and exercise price of the Bonds and 2008 Warrants. In addition, the bondholders may declare a default under the Bonds and require us to pay the Bonds, which could result in bankruptcy or otherwise impair our ability to maintain sufficient liquidity to continue our operations.

Dubai Metro Rail Project

On September 9, 2009, the Red Line, or first phase, of the Dubai Metro was officially opened. We, through our subsidiary Techwell Engineering Limited, had been working towards completion of our external envelopes for stations along the Red Line of the Dubai Metro System.  According to our original construction blueprint, the majority of our construction work was completed at the end of June 2009, and final construction milestones were scheduled for completion in the third quarter of 2009.  With less than 5% of our contract remaining to be completed, Techwell was removed by the master contractor of the project, who also called for and received payment of $2.1 million in performance bonds and $7.3 million in advance payment bonds that were issued on Techwell's behalf for the project. The calling of the advance payment bonds was based on the master contractor's belief that it had paid in excess of the construction work performed.  We and certain of our subsidiaries are guarantors of the bonds that were paid by the banks, and we are liable under the guarantee agreements for such amounts paid by the banks.  We do not believe that the master contractor had a proper basis for calling the bonds and intend to vigorously pursue and defend all of our legal rights and remedies related to this dispute.  We have engaged a construction claims consultant to facilitate resolution of this dispute.  We and our construction claims consultant, based on a review of the facts, documents, and materials available, believe that we have a reasonable opportunity to collect the amounts due to Techwell from the master contractor, less appropriate credits as our final amount due for work performed through September 2009.  We, with the assistance of our claims consultant, have been continuously evaluating the dispute and probability of success on this dispute going forward and make the appropriate adjustments; however, no assurance can be given that the dispute will be resolved in our and Techwell’s favor. The Company’s counsel in Dubai is preparing the legal documents for the claims by the time of this report.

With the use of “percentage-of-completion” method, the revenue to be recognized for each period will included both (1) the revenue earned for the current period and (2) the adjustment to previously recognized revenue that is required because of the changes in estimated total revenue, costs and profitability of projects from which the previous revenue had been recognized. The changes in the estimates may be the result of, for example, increased costs or overhead expenses of the projects, changes of the scope of the works of the contract as well as the changes of technologies used which in turn affect the costs of the project.  Under these circumstances, the estimated revenue and costs can change and as a result the estimated profitability of the project can change, which affects the profit elements in the revenue previously recognized and may be required to be revised accordingly.  The “adjustments” or “revisions” are made via adjustment to the current period revenue because it is the changes in estimates that are requiring the revisions and not a restatement of the previous period figures.

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With respect to the Dubai Metro Rail Project, which was the primary focus of Techwell, an adjustment under the percentage-of-completion method described above may be required if, for example, the Company and the Company’s claim consultant modifies its evaluation of the Company’s claims such that the Company is not likely to recover its claims as currently anticipated, if the Company encounters any unexpected difficulties in the claiming process which making the increase of claiming costs, and if a commercial settlement between the parties is reached on a amounts different from current value estimates.  In such scenarios, the final project revenue or estimated costs may be changed to affect the revenue recognition of the project.  However, neither of the situations is considered to exist at the moment of the reporting that affects the accounting estimates of revenue and costs used for the period.  As such, the Company believes that the revenue recognized to date is appropriate as there were periodic reviews of the estimates of the project revenue and costs by the Company to reflect the latest profitability of the project for revenue recognition.

One of the primarily reasons that the Company’s contract receivables have increased is the delay in payment by client of the Dubai projects since April 2009.  The underlying receivable as of September 30, 2009 from the Dubai projects was equal to approximately $19.2 million, which represented 23% of the total contract receivables as of such date. The Company has employed a claim consultant, Hill International, to facilitate the Company’s claim for the back payment.  The Company currently expects that there will be progress and payments will be received as early as the third quarter of 2010.  However, due to the ongoing dispute, there is no guarantee that the Company will collect all or a portion of the contract receivable.  For receivables related to the Dubai Project, the client delayed payment to us since April 2009 by refusing to issue the Certificates for Value of Work Done.  No Certificates have been issued since April 2009.  The Certificates are pre-requisites to proceed with payment to the Company. The client paid for all work for Certificates for Value of Work Done issued in or before April 2009.  Such payments were made prior to December 31, 2009.  As a result, no account receivables at March 31, 2010 represent work for the above-referenced Certificates issued in or before April 2009.  The receivables as of March 31, 2010 were recognized in accordance with the Percentage of Completion Method and based on the claim consultant’s report on the estimated final value of work done that the Company completed as of March 31, 2010.

The Company has not recorded an allowance for doubtful accounts related to the Dubai project.  The Company has engaged a construction claims consultant to facilitate resolution of the dispute.  The Company and its construction claims consultant, based on a review of the facts, documents, and materials available, believe that the Company has a reasonable opportunity to collect the amounts due to Techwell from the master contractor, less appropriate credits as its final amount due for work performed through September 2009.  The Company, with the assistance of its claims consultant, have been continuously evaluating the dispute and probability of success on this dispute going forward and make the appropriate adjustments; however, no assurance can be given that the dispute will be resolved in the Company’s and Techwell’s favor.  In the report of the claim consultant, there are the high and low estimates for the final total value of work done for the Dubai project. The Company started with the low estimates with prudence and adjusted such amounts with the amounts that the claim consultant’s expressed that there was an excellent opportunity for the Company to be recovered.  Furthermore, as the client of the projects being the joint venture of two reputable Japanese corporations and one Turkish corporation with long operating histories, the Company believes that the possibility of default in payment is considered not likely to occur.  Based on these supporting documents and analysis, the Company believes that the receivables will be collected and no allowance is required.  However, the Company will be required to account for doubtful collection of the receivables related to the Dubai Project in the event it concludes that it is not likely that the Company will be able to collect the receivables.

Techwell Litigation

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

On January 14, 2009, the board of directors of Techwell passed a board resolution, to dismiss both Mr. Ng and Miss Yam with immediate effect and remove Mr. Ng from the board of Techwell (the “Resolution”).   On January 16, 2009, Mr. Ng and Miss Yam filed a lawsuit in the High Court of Hong Kong against the Company and its subsidiary, Full Art International Limited.  The lawsuit alleges that, inter alia, (i) the Company misrepresented to them the financial status of the Company and its operations during the course the negotiations of the Techwell acquisition; (ii) the Company failed to perform its obligations under a settlement agreement alleged to have been agreed to by the Company in January 2009; and (iii) the dismissal of Mr. Ng was unlawful and invalid.  The lawsuit filed by Mr. Ng and Miss Yam requests the court for specific performance of the settlement agreement that was allegedly entered into, which would require the return of the Techwell company to Mr. Ng and Miss Yam, and in the absence of such grant of relief, Mr. Ng and Miss Yam request unspecified damages in lieu of return of the Techwell company.

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On January 23, 2009 an ex-parte injunction order was granted to Mr. Ng, restraining the Company from implementing the Resolution, which was eventually dismissed with immediate effect on February 25, 2009 after a court session in the High Court of Hong Kong. Mr. Ng was also ordered to bear the costs of the various court proceedings in connection with the injunction order. On March 27, 2009, Mr. Ng and Miss Yam filed a summons in the High Court of Hong Kong seeking a court order for leave to join the Company’s principal shareholder, KGE Group Limited, as a defendant in the lawsuit, which was granted on April 9, 2009.  As a result, KGE Group Limited became one of the defendants of the lawsuit. On May 12, 2009, the Company filed a Defense and Counterclaim at the High Court of Hong Kong in response to a Statement of Claim served by Mr. Ng and Miss Yam on the Company on April 7, 2009.

As of the date of this report, the Company, Mr. Ng, and Miss Yam are in discussions and negotiations to settle all disputes between the parties.  However, there is no guarantee that the parties will reach an agreement to settle the dispute, in which case the Company intends to vigorously defend itself against the lawsuit.  There can be no assurance that the lawsuit will be resolved in the Company’s favor.  Even if the Company successfully defends the lawsuit, the Company may incur substantial costs defending or settling the lawsuit, in addition to a possible diversion of the time and attention of the Company’s management away from its business.  If the Company is unsuccessful in defending the lawsuit, its may be required to pay a significant amount of damages and/or it may potentially lose ownership of Techwell, which will have a material adverse effect on the Company’s business, financial condition or results of operations.  In the event we lose ownership of Techwell, we will lose the approximately $17.3 million of profit contribution since the acquisition of Techwell.

Results of Operations

The following table sets forth statements of operations for the three months ended March 31, 2010 and 2009 in U.S. dollars (unaudited):

	For Three Months Ended March 31,
	2010			2009
	(in thousands, except for share and per share amounts)
Contract revenues earned	$	11,472		$	36,343
Cost of contract revenues earned		(9,144	)		(28,162	)
Gross profit	$	2,328		$	8,181
Selling, general and administrative expenses		(4,223	)		(5,951	)
Income from operations	$	(1,895	)	$	2,230
Interest income		2			4
Interest expenses		(1,626	)		(1,312	)
Other income		7			22
Income before taxes	$	(3,512	)	$	944
Income tax		9			-
Equity loss and minority interests		(1	)		-
Net income (loss)	$	(3,520	)	$	944
Earnings per share:
Basic	$	(0.06	)	$	0.02
Diluted	$	(0.06	)	$	0.02
Weighted average shares outstanding:
Basic		54,729,908			53,256,874
Diluted		54,729,908			53,256,874,

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Three Months Ended March 31, 2010 and 2009

Contract revenues earned for the three months ended March 31, 2010 were $11.5 million, a decrease of $24.8 million, or 68%, from the contract revenues earned of $36.3 million for the comparable period in 2009. The primary reason for the decrease in contract revenues earned was due to a decline in the global economy and construction industry, completion of international projects in 2009 such as the Dubai Metro Red Line, Guangdong Science City Headquarter Phase I, and Doha High Rise Office Tower, in addition to our cessation of our international projects.

Cost of contract revenues earned for the three months ended March 31, 2010 was $9.1 million, a decrease of $19.1 million, or 68%, from $28.2 million for the comparable period in 2009. Cost of contract revenues earned consists of the raw materials, labor and other operating costs related to manufacturing. The decrease in costs of contract revenues earned was primarily due to decrease in revenue in earned.  As a percentage of contract revenues, cost of contract revenues was approximately 79.7% for the quarter ended March 31, 2010, as compared to 77.5% for the same period in 2009.  The slight increase in cost of contract revenues as a percentage of revenues was primarily due to increases in raw material, labor and administrative costs in our domestic market of China.

Provisions for estimated losses on uncompleted contracts are charged to cost of contract revenues earned in the period in which such losses are determined. Changes in job performance, job conditions, and estimated profitability, including those arising from contract penalty provisions, and final contract settlements may result in revisions to costs and income and are recognized in the period in which the revisions are determined. Profit incentives are included in revenues when their realization is reasonably assured. An amount equal to contract costs attributable to claims is included in revenues when realization is probable and the amount can be reliably estimated.

Gross profit for the three months ended March 31, 2010 was $2.3 million, a decrease of $5.9 million, or 72%, from $8.2 million for the comparable period of 2009. Our gross margin for the three months ended March 31, 2010 was 20.3% as compared with 22.5% for the three months ended March 31, 2009. The decrease in gross margin was primarily a result of increases in raw material, labor and administrative costs in our domestic market of China.

Selling, general and administrative expenses were $4.2 million for the three months ended March 31, 2010, a decrease of approximately $1.8 million, or 30%, from approximately $6.0 million for the comparable period in 2009. The decrease was due to decrease in revenue in earned.  Among the selling, general and administrative expenses, payroll and social securities was the single largest expenditure of the group, which accounted for approximately 71.8% of the expenses including 47.6% or $2.0 million being stock compensation expenses granted during the first quarter of 2010. Other major expenses included rental expenses 6.3% and depreciation expenses 4.3%.

Interest expenses and finance expenses were $1.6 million for the three months ended March 31, 2010, an increase of $0.3 million, from approximately $1.3 million for the comparable period in 2009.  The increase was primarily due to the additional interest expense in the first quarter of 2010 related to borrowing by short-term bank loans.

Income tax expenses were $9,575 for the three months ended March 31, 2010 at an effective tax rate of -0.3%, compared with $nil in taxes for the same period of 2009 at an effective tax rate nil%.  The primary reason for the decrease was due to losses incurred by the operations of the Company as still suffering from the effects of the recent international financial crises.

Net loss for the three months ended March 31, 2010 was $3.5 million, a decrease in income of $4.4 million, or 489%, from net profit of $0.9 million for the comparable period in 2009.

Liquidity and Capital Resources

At March 31, 2010, we had cash and cash equivalents of $0.5 million.

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

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

On April 15, 2008, we completed a financing transaction pursuant to which we issued the 2008 Bonds in the principal amount of $20.0 million. The 2008 Bonds bear cash interest at the rate of 12% per annum. Interest is payable semi-annually in arrears on April 15 and October 15 of each year (each an “Interest Payment Date”) commencing October 15, 2008. On any Interest Payment Date on or after April 15, 2010, the holders of the Bonds can require us to redeem the Bonds at 116.61% of the principal amount. We are required to redeem any outstanding Bonds at 116.61% of its principal amount on April 15, 2011. We also issued 300,000 warrants in connection with the 2008 Bonds on April 15, 2008 to purchase an aggregate of 300,000 shares of our common stock, subject to adjustments for stock splits or reorganizations as set forth in the warrant instrument. On February 24, 2010, we entered into the Waiver Agreement with the holders of our 2007 Bonds and 2008 Bonds and 2008 Warrants.  Pursuant to the Waiver Agreement, we agreed to pay the bondholders the interest in arrears owed on the Bonds as of March 31, 2010 in two equal payments on March 31, 2010 and May 31, 2010 of approximately $1.26 million each and to pay 100% of the interest payments on the Bonds that becomes due in April 2010 to be paid on April 15, 2010 of approximately $1.32 million, for aggregate payments of approximately $3.84 million. We also agreed to repay the principal and all accrued interest that we owe to ABN AMRO Bank (China) Co., Ltd., Shenzhen Branch (the “Overdraft Lender”) under an Overdraft Facility letter in three equal separate installments. The total amount owed to the Overdraft Lender is equal to approximately $4.91 million. The first installment is due no later than March 31, 2010, the second installment is due on April 30, 2010 and the third installment is due on May 31, 2010. We also agreed that we will not repay or prepay any debt prior to its currently scheduled due date until we make all of the payments specified in the Waiver Agreement and the Bonds have been redeemed in full and that any new indebtedness incurred by us for the purpose of repaying the Overdraft Facility will (i) not exceed the outstanding amount due and payable under the Overdraft Facility and (ii) be subordinated to all amount owed under the Bonds. By the time of this report, the Company has honored the payments as scheduled under the Waiver Agreement.

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

In October 2006, we opened a line of credit facility with the Zhuhai branch of Bank of East Asia for up to a maximum of RMB20,000,000. The credit facility does not require renewal until October 2011. In order to facilitate the extension of the credit facility, we agreed to deposit the equivalent amount in HKD on fixed deposit terms into the Hong Kong branch of Bank of East Asia. This facility is subject to a current interest rate of 5.508% and interest rate adjusts every 6 months. We did not have any amount outstanding as of March 31, 2010.

Our subsidiary, Zhuhai King Glass Engineering Co., Limited, borrowed from Bank of East Asia with a condominium as collateral. This facility, which is due October 25, 2011, is subject to a current interest rate of 5.508% and interest rate adjusts every 6 months. The Company did not have any outstanding as of March 31, 2010.

Full Art International Limited incurred an automobile capital lease obligation due November 09, 2012 that had an outstanding amount of $166,865 as of March 31, 2010.

On February 19, 2008, we and Techwell Engineering Limited were granted a bond facility by the Hong Kong Branch of ABN AMRO Bank N.V. The facility amount was $10,000,000, at a tenor of up to one year with 2% flat interest rate on the issued amount of bonds such as bank guarantees, performance bonds, advanced payment bonds and standby letters of credit. ABN AMRO required guarantees as follows: (i) an irrevocable and unconditional guarantee executed by Zhuhai King Glass Engineering Co. Limited and (ii) share charge over the shares of us for a minimum value of $5,000,000 or equivalent, executed by KGE Group Limited. On May 2, 2008, the facility was increased to $12,000,000 with additional cash collateral of $2,000,000, which is also the total amount of cash collateral for the facility. All cash collateral was then fully used to off-set a portion of the calling of the bonds for projects in Dubai by the beneficiary. As of March 31, 2010, the facility is fully utilized.

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On March 28, 2008, we, Full Art and Techwell Engineering Limited were granted a bonding facility by the Hong Kong Branch of HSBC. The facility amount was $10,000,000, at a tenor of up to one year with 1% flat interest rate on the issued amount of bonds such as bank guarantees, performance bonds, advanced payment bonds and standby letters of credit. HSBC required guarantees as follows: (i) an unlimited guarantee among China Architectural Engineering, Inc., Full Art International Limited and Techwell Engineering Limited; and (ii) an “all monies” securities deposits with 15% margin. On August 18, 2008, the facility was increased to $20,000,000 with additional cash collateral of $1,500,000 that increased the total amount of cash collateral to $3,000,000. In September 2009, $2,818,440 of the cash collateral was used to off-set of the calling of the bonds for projects in Dubai by the beneficiary. As of March 31, 2010, we have utilized $1.8 million of the facility.

On July 19, 2008, Zhuhai King Glass Engineering Co., Ltd. (“Zhuhai KGE”), our wholly-owned subsidiary was granted a Bank Accepted Draft facility by the Shenzhen Branch of ABN AMRO Bank N.V. The facility amount is RMB70,000,000 (US$10,218,978).  On September 30, 2009, the facility was amended to allow Open Account Financing – Accounts Receivable against invoices from acceptable buyers up to RMB21,000,000 and Open Account Financing and Overdraft in Current Account up to RMB16,800,000.  ABN AMRO requires irrevocable and unconditional guarantee from us and cash collateral of 20% of bank’s acceptance bill issued and Open Account Financing.  As of March 31, 2010, Zhuhai KGE utilized RMB nil (US$nil million) of Bank Accepted Draft and RMB 22.1 million (US$3.2 million) of Overdr aft in Current Account.

In September 2009, the beneficiary of a performance bond and advance payment bonds for the projects in Dubai demanded the drawing of approximately $9.4 million in total from the two issuing banks, ABN AMRO Bank NV and HSBC. The calling of the bonds was based on the beneficiary’s belief that it had paid in excess of the construction work performed. We do not believe that the beneficiary had the proper basis for calling the bonds and intend to vigorously defend all of their rights and remedies related to the dispute. As of March 31, 2010, after an offset against collateral accounts that we held with the banks, there was approximately $4.5 million in a shortfall amount due to ABN AMRO Bank NV by us that was not paid off.  Such amount is currently outstanding as the temporary loan from the bank at the interest rate at the bank’s cost of funds plus 6%.

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

· It takes approximately one month for our client to collect the payment application from contractors for the contract work completed.

· Thereafter, it takes approximately one to two months for the verification, agreement and certification of work completed, with timing to largely depend on whether there is disagreement in the calculation of certified value between the parties.

· Moreover, if it is the case that the application is to finalize the project account, it may take up to three months.

· Additionally, in the event that the client is not the owner of the project, it normally requires an additional one to two months for processing and obtaining the funds from the owner.

· One to two months the client to pay the contractors.

In contrast to collection times, we typically need to place certain deposit with our suppliers on a portion of the purchase price in advance and for some suppliers we must maintain a deposit for future orders. We attempt to maintain a credit policy of receiving certain amounts of deposit from customers before we begin a new project.

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We experienced revenue of $11.4 million for the three months ended March 31, 2010 compared to revenue of $36.3 million for the same period in 2009. Construction contract related receivables, including contract receivables and costs and earnings in excess of billings as of March 31, 2010 were $98.5 million, an increase of $1.2 million over construction related receivables of $97.3 million as of March 31, 2009. The increase reflected the holding of payment by the customer for our project in Dubai.  In addition, because the collection period typically runs from two months to one year, the increase in such receivables reflects the long collection period.  In addition, our payment cycle is considerably shorter than our receivable cycle, since we typically pay our suppliers all or a portion of the purchase price in advance and for some suppliers we must maintain a deposit for future orders.

Among the $88.4 million contract receivables as of March 31, 2010, $11.6 million (13.1%) was outstanding over 365 days and $12.7 million (14.4%) over 730 days, in total of $24.3 million which including $10.6 (12.0%) million of retention money which would only be settled after the retention periods of two or three years. The Company periodically prepares the aging of the receivables information and reviews the balances with consideration of the background of each client for assessing the realizable value of the balances and would make provision when appropriate.  The Company notes that its account receivables that are 365 and 720 days old are primarily related to the Company’s PRC operations, and the payment cycle in the PRC commonly entails a receivable being outstanding for over one to two years before collection.  Such situations are particularly common in the construction market and with the clients from government. Since the Company’s older outstanding receivables are mainly of government projects, the final accounts and payments are required to be processed through a lengthy bureaucratic process in the PRC government. Based on the foregoing, and despite the receivables being outstanding from 365 to 720 days, the Company considers them to be realizable because the Company believes that there is a remote chance that the PRC Government will go into bankruptcy or otherwise refuse to make payment on the receivables. In addition, the Company has the policy of conducting a comprehensive review the aging of account receivables on a regular basis every three months.  Furthermore, the Company has a designated staff member from one of its PRC subsidiaries to remain in constant communication with the Company’s various departments regarding PRC receivables collection status, and allowances for doubtful accounts is made, as necessary, based on the collection status updates. As of March 31, 2010, the contract receivables under aging of 91 to 120 days amounted to $49.4 (55.9%) million including the receivables of the projects in Dubai which were recognized at the end of the year at $42.1 (47.7%) million.

We provide for bad debts principally based upon the aging of accounts receivable, in addition to collectability of specific customer accounts, our history of bad debts, and the general condition of the industry. We effected a direct write off through a $3.7 million provision to the account receivables.  We recorded additional provision for doubtful accounts of $193,752 in the three months ended March 31, 2010.  As of March 31, 2010, our provision for doubtful accounts was $3.1 million, which was 3.4% of our construction contract related receivables of $91.3 million. We believed our current reserve for doubtful accounts is commensurate to cover the associated credit risk in the portfolio of our construction contract related receivables.  Due to the difficulty in assessing future trends, we could be required to further increase our provisions for doubtful accounts.  As our accounts receivable age and become uncollectible our cash flow and results of operations are negatively impacted.

In addition to the foregoing, we had a provision for contracts receivables that was reclassified as “Other receivable” in the amount of approximately $9.9 million that represented account receivables of a subsidiary, Techwell Engineering Ltd. (Techwell).  The receivables were acquired through our acquisition of the Techwell in 2007 and have been outstanding since acquisition.   The receivables are guaranteed by previous shareholders of Techwell if not paid within 24 months of the acquisition.  Accordingly, the provision was made and the receivable amount was transferred to amount due from the shareholders under other receivable balances.

At March 31, 2010, we had no material commitments for capital expenditures other than for those expenditures incurred in the ordinary course of business.  We intend to expend a significant amount of capital to purchase materials and serve as deposits for performance bonds for new projects that we have obtained. Additional capital for this objective may be required that is in excess of our liquidity, requiring us to raise additional capital through an equity offering or secured or unsecured debt financing. The availability of additional capital resources will depend on prevailing market conditions, interest rates, and our existing financial position and results of operations.

Net cash provided by operating activities for the three months ended March 31, 2010 was approximately $6.9 million, as compared to $4.3 million in the same period in 2009. In addition to the decrease in net income (-$4.2 million), the change is primarily due to differences in changes in receivables (-$6.1million), payables ($11.1 million) and the non-cash item of stock compensation ($2.0 million).

Net cash provided by investing activities was approximately $1.0 million for the three months ended March 31, 2010 compared to approximately $1.3 million for the three months ended March 31, 2009. The change was mainly a result of the difference in change of restricted cash.

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Net cash used in financing activities was $8.3 million for the three months ended March 31, 2010 compared to $6.6 million for the three months ended March 31, 2009. The increase was primarily due to differences in changes of repayment of short-term loans (-$2.9 million) and repayment of shareholders loan ($4.6 million).

Off-Balance Sheet Arrangements

None.

Critical Accounting Policies and Estimates

The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues, expenses and allocated charges during the reporting period. Actual results could differ from those estimates.

We describe our significant accounting policies in Note 2, Summary of Significant Accounting Policies, of the Notes to Consolidated Financial Statements included in our Annual Report on Form 10-K as of and for the year ended December 31, 2009. We discuss our critical accounting policies and estimates in Management’s Discussion and Analysis of Financial Condition and Results of Operations in our Annual Report on Form 10-K as of and for the year ended December 31, 2009.  Other than as indicated in this quarterly report, there have been no material revisions to the critical accounting policies as filed in our Annual Report for the fiscal year ended December 31, 2009 on Form 10-K as filed with the SEC on March 4, 2010, and as amended by Amendment No.1 on April 30, 2010 and Amendment No.2 on May 14, 2010.

Recent Accounting Pronouncements

See Note 2(t) of the accompanying unaudited interim consolidated financial statements included in this Form 10-Q for a discussion of recent accounting pronouncements.

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK

There have been no material changes in market risk from the information provided in Part II, Item 7A “Quantitative and Qualitative Disclosures About Market Risk” in our Annual Report for the fiscal year ended December 31, 2009 on Form 10-K as filed with the SEC on March 4, 2010, and as amended by Amendment No.1 on April 30, 2010 and Amendment No.2 on May 14, 2010.

ITEM 4.  CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures

Disclosure controls and procedures are controls and other procedures that are designed to ensure that information required to be disclosed by us in the reports that we file or submit under the Securities Exchange Act of 1934 (the “Exchange Act”) is recorded, processed, summarized and reported, within the time periods specified in the Securities and Exchange Commission's rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by us in the reports that we file under the Exchange Act is accumulated and communicated to our management, including our principal executive and financial officers, as appropriate to allow timely decisions regarding required disclosure.

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

These material weaknesses primarily related (i) our restatements that we conducted in May 2010 and (ii) one of our material operating subsidiaries, Techwell Engineering Limited. (“Techwell”) that we acquired in November 2007.

Restatements

In May 2010, we discovered that certain of our previously filed quarterly and annual reports contained errors that required correction and restatement. The errors related to the timing of the interest expense related to the Company’s outstanding $8,000,000 Variable Rate Convertible Bonds due 2012 and $20,000,000 12% Convertible Bonds due 2011 that resulted in overstatements and understatements of the interest expenses related to the bonds during various quarters before the second quarter of 2008. Due to the accounting errors, the interest expense was overstated by approximately $0.3 million, $0.5 million, and $0.7 million for the second, third, and fourth quarters of fiscal year 2007, respectively, for a total overstatement of approximately $1.5 million for fiscal 2007. The interest expense was overstated by approximately $0.1 million in the first quarter of 2008 and all the overstatements, approximately $1.6 million, were reversed in the second quarter of 2008. For the year ended December 31, 2009, there was an overstatement of the interest expense of $8,000 in the second quarter and an understatement of $6,000 during the third quarter, for a total of overstatement of $2,000 for fiscal year 2009. The net bonds payable amounts were presented correctly in the Company’s financial statements as of December 31, 2008 and 2009, and it was only the components of the Convertible Bonds that were restated, while the net payable amounts as of December 31, 2007 was stated with correction of errors.

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Additionally, a correction was needed for the addition of an equity compensation charge in the amount of $4,976 related to a portion of options granted in October 2009 that the Company inadvertently omitted in the original Form 10-K filing. Together with the overstatement of interest expenses of $2,000, the loss for the year ended December 31, 2009 was understated by 2,983 and the retained earnings as of December 31, 2009 was overstated by 2,983. Additionally, $1.5 million of consolidation exchange loss resulted from the intercompany investments elimination was incorrectly included in the additional paid in capital instead of the accumulated comprehensive income presented in the Stockholders’ Statement of Equity and Comprehensive Income for the year ended December 31, 2009.

We believe that the accounting errors were caused by lack of personnel with expertise in US generally accepted accounting principles and SEC rules and regulations, in addition to inadequate staffing and supervision that lead to the untimely identification and resolution of accounting and disclosure matters and failure to perform timely and effective reviews. We intend to take action to remediate these deficiencies going forward.

Techwell

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

A material weakness is a deficiency, or a combination of deficiencies, in internal control over financial reporting such that there is a reasonable possibility that a material misstatement of the annual or interim financial statements will not be prevented or detected in a timely basis.  We identified the following material weaknesses:

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

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

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

Remediation Efforts

We are in the process of developing and implementing remediation plans to address our material weaknesses.  

Restatements

We have taken and intend to take the following actions to address the material weaknesses and improve our internal controls over financial reporting:

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1. We are seeking to improve supervision, education, and training of our accounting staff. We are also considering to engage third-party financial consultants to review and analyze our financial statements and assist us in improving our reporting of financial information.

2 Management intends to hire additional personnel with technical knowledge, experience and training in the application of generally accepted accounting principles commensurate with our financial reporting and U.S. GAAP requirements.

3. We will continue to monitor the effectiveness of these improvements. We are also considering to work with outside consultants in assessing and improving our internal controls and procedures when necessary.

4. An internal SOX 404 task force is being setting up in order to help the company strengthening its controls and procedures on the financial reporting.

Techwell

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

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

2. Management has initiated a Sarbanes-Oxley Act of 2002 Section 404 Compliance Assistance Project, which is intended to meet all requirements required by SEC in our company and all of our subsidiaries. We engaged a consulting firm to assist in the set-up of project and our staff thereafter continued with its implementation.

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

4. In June 2009, we reorganized and restructured Techwell’s Corporate Accounting by (a) modifying the reporting structure and establishing clear roles, responsibilities, and accountability, (b) hiring skilled technical accounting personnel to address our accounting and financial reporting requirements, and (c) assessing the technical accounting capabilities in the operating units to ensure the right complement of knowledge, skills, and training.

5. In 2009, we also reorganized and restructured the budgeting process by (a) centralizing the procurement function to our company to ensure budgets and analyses of Techwell are timely prepared and properly reviewed; (b) implementing new policies and procedures to ensure that appropriate communication and collaboration protocols among our Engineering, Procurement and Corporate Accounting departments; and (c) hiring the necessary technical procurement personnel to support complex procurement activities.    We have hired two experienced technical procurement managers and expect to increase the headcount in the purchase department in the future if necessary.

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

7. In September 2009, we hired a new Vice President of Finance who was later appointed as our Acting Chief Financial Officer in November 2009.  We believe that the addition of this person will assist the strengthening of the controls and procedures of our company.

8. In December 2009, our Acting Chief Financial Officer lead an extensive review of the controls and procedures of our company and developed a detailed remediation and implementation plan for Sarbanes-Oxley Act of 2002 Section 404 compliance to be carried out starting in 2010, which is currently underway.

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

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Changes in internal control over financial reporting

Based on the evaluation of our management as required by paragraph (d) of Rule 13a-15 of the Exchange Act, we believe that there were no changes in our internal control over financial reporting that occurred during the first quarter of 2010 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting, other than as described above under “Remediation Efforts.”

PART II-OTHER INFORMATION

ITEM 1.          LEGAL PROCEEDINGS

See Note 12(b) of the accompanying unaudited interim consolidated financial statements included in this Form 10-Q for a discussion of our current legal proceedings.

ITEM 1A.       RISK FACTORS

Any investment in our common stock involves a high degree of risk. Investors should carefully consider the risks described below and all of the information contained in our public filings before deciding whether to purchase our common stock. Except as set forth below, there have been no material revisions to the “Risk Factors” as filed in our Annual Report for the fiscal year ended December 31, 2009 on Form 10-K, as filed with the Securities and Exchange Commission on March 4, 2010, and as amended by Amendment No.1 on April 30, 2010 and Amendment No.2 on May 14, 2010.

The restatement of certain of our historical consolidated financial statements may have an adverse effect on us.

In May 2010, our management concluded that our consolidated audited financial statements for the years ended December 31, 2009, 2008 and 2007 and our consolidated unaudited interim financial statements for the periods ended June 30, 2007, September 30, 2007, March 31, 2008 and June 30, 2008 needed to be restated and should not be relied upon.  For a more detailed discussion of the restatements, amendments and their underlying circumstances, please refer to the Explanatory Note at the beginning of our Annual Report on Form 10-K/A for the year ended December 31, 2009 (the “Amended 2008 Form 10-K”) and Note 1 of the Notes to the consolidated financial statements included in the Amended 2009 Form 10-K.  As a result of the restatements, the Company may become subject to a number of significant risks, which could have an adverse effect on its business, financial condition and results of operations, including potential civil litigation (including stockholder class action lawsuits and derivative claims made on behalf of the Company), and regulatory proceedings or actions, the defense of which may require significant management attention and significant legal expense and which litigation, proceedings or actions, if decided against us, could require us to pay substantial judgments, settlements or other penalties.

We identified material weaknesses in our internal control over financial reporting and concluded that such controls were not effective.  If we fail to maintain effective internal control over financial reporting, we may not be able to accurately report our financial results.  We can provide no assurance that we will at all times in the future be able to report that our internal control is effective.

Because we have reporting obligations under the Exchange Act, we are required to report, among other things, control deficiencies that constitute material weaknesses or changes in internal control that, or that are reasonably likely to, materially affect internal control over financial reporting.  A “material weakness” is a significant deficiency or combination of significant deficiencies that results in more than a remote likelihood that a material misstatement of the annual or interim financial statements will not be prevented or detected.  Based on the restatements to our financial statements referenced above, our management concluded that our system of internal control over financial reporting was not effective as of the three month period ended March 31, 2010, in addition to prior period end dates, which were the cause of our restatements as described above.  Although management does not anticipate making any further restatements to the financial statements for subsequent periods, management believes that our weakness in internal controls continued during such periods.  Management has identified internal control deficiencies which, in management’s judgment, represent material weaknesses in internal control over financial reporting.  The control deficiencies related to controls over the accounting and disclosure for transactions to ensure such transactions were recorded as necessary to permit preparation of financial statements and disclosure in accordance with GAAP. If we fail to comply with the requirements of Section 404 of the Sarbanes-Oxley Act of 2002 or report a material weakness, we might be subject to regulatory sanction and investors may lose confidence in our financial statements, which may be inaccurate if we fail to remedy such material weakness.

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

None.

ITEM 3.          DEFAULTS UPON SENIOR SECURITIES

None.

ITEM 4.         REMOVED AND RESERVED

None.

ITEM 5.         OTHER INFORMATION

None.

ITEM 6.         EXHIBITS

31.1	Certification of Chief Executive Officer pursuant to Section 302(a) of the Sarbanes-Oxley Act of 2002
31.2	Certification of Chief Financial Officer pursuant to Section 302(a) of the Sarbanes-Oxley Act of 2002.
32.1	Certification of Chief Executive Officer and Chief Financial Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.*

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

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SIGNATURES

In accordance with the requirements of the Exchange Act, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

	CHINA ARCHITECTURAL ENGINEERING, INC. (Registrant)
May 19, 2010	By:	/s/  Luo Ken Yi
		Luo Ken Yi
		Chief Executive Officer and Chairman of the Board

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