China Shenghuo Pharmaceutical (KUN) 10-Q 2010 Q3 Quarterly report

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

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

SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2010

OR

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

SECURITIES EXCHANGE ACT OF 1934

For the transition period from ______________ to ______________

Commission file number 001-33537

CHINA SHENGHUO PHARMACEUTICAL HOLDINGS, INC.

(Exact Name of Registrant as Specified in Its Charter)

Delaware	20-2903562
(State or Other Jurisdiction of Incorporation or Organization)	(IR.S. Employer Identification No.)

No. 2 , Jing You Road, Kunming National Economy & Technology Developing District People’s Republic of China 650217	N/A
(Address of Principal Executive Offices)	(Zip Code)

0086-871-728-2628

(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 is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer o Accelerated filer o Non-accelerated filer o Smaller Reporting Company x

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 19,679,400 shares outstanding of the issuer’s common stock, par value $.0001 per share, as of November 12, 2010.

CHINA SHENGHUO PHARMACEUTICAL HOLDINGS, INC.

FORM 10-Q QUARTERLY REPORT

TABLE OF CONTENTS

		Page
PART I - FINANCIAL INFORMATION
ITEM 1.	CONDENSED FINANCIAL STATEMENTS
	Condensed Consolidated Balance Sheets as of September 30, 2010 (Unaudited) and December 31, 2009	3
	Condensed Consolidated Statements of Operations and Comprehensive Income(Loss) for the Three and Nine Months Ended September 30, 2010 and 2009 (Unaudited)	4
	Condensed Consolidated Statements of Cash Flows for the Nine Months Ended September 30, 2010 and 2009 (Unaudited)	5
	Notes to Condensed Consolidated Financial Statements (Unaudited)	6
ITEM 2.	MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS	15
ITEM 3.	QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK	29
ITEM 4T.	CONTROLS AND PROCEDURES	29
PART II - OTHER INFORMATION		30
ITEM 1.	LEGAL PROCEEDINGS	30
ITEM 1A.	RISK FACTORS	31
ITEM 2.	UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS	31
ITEM 3.	DEFAULTS UPON SENIOR SECURITIES	31
ITEM 4.	SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS	31
ITEM 5.	OTHER INFORMATION	31
ITEM 6.	EXHIBITS	31
SIGNATURES		32

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CHINA SHENGHUO PHARMACEUTICAL HOLDINGS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

(Amounts in USD)

	September 30, 2010			December 31, 2009
	(Unaudited)
Assets:
Current Assets:
Cash and cash equivalents	$	1,703,422		$	1,986,540
Accounts and notes receivable, net		13,351,446			12,104,296
Other receivables, net		7,013,655			6,694,151
Advances to suppliers		851,322			394,856
Inventories, net		3,102,937			3,896,358
Due from related parties		216,503			417,494
Other current assets		1,177,984			866,645
Total Current Assets		27,417,269			26,360,340
Property, plant and equipment, net		14,414,495			12,065,552
Other non-current assets		1,718,147			1,497,421
	$	43,549,911		$	39,923,313
Liabilities and Equity:
Current Liabilities:
Accounts payable	$	3,240,471		$	4,744,919
Other payables and accrued expenses		9,587,565			10,099,497
Deposits payable		7,915,267			7,037,155
Short-term borrowings		5,008,708			5,455,958
Advances from customers		2,006,222			916,362
Taxes and related payables		943,701			1,094,331
Current portion of long-term borrowings		7,013,774			3,948,985
Total Current Liabilities		35,715,708			33,297,207
Long-term borrowings		6,327,319			5,850,348
		42,043,027			39,147,555
Commitments and Contingencies		-			-
Equity:
Common stock, $0.0001 par value, 100,000,000 shares authorized and 19,679,400 shares outstanding		1,968			1,968
Additional paid-in capital		6,193,927			6,193,927
Appropriated retained earnings		147,023			147,023
Accumulated deficit		(6,398,473	)		(7,157,293	)
Accumulated other comprehensive income		1,614,051			1,589,047
Total stockholder's equity		1,558,496			774,672
Noncontrolling interests		(51,612	)		1,086
Total Equity		1,506,884			775,758
	$	43,549,911		$	39,923,313

See notes to condensed consolidated financial statements

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CHINA SHENGHUO PHARMACEUTICAL HOLDINGS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

AND COMPREHENSIVE INCOME (LOSS) (UNAUDITED)

(Amounts in USD, except shares)

	Three months Ended  September 30,						Nine months ended  September 30,
	2010			2009			2010			2009
Sales	$	8,551,182		$	10,558,218		$	23,340,191		$	25,459,077
Cost of Sales		2,996,674			2,947,511			7,561,650			7,643,566
Gross Margin		5,554,508			7,610,707			15,778,541			17,815,511
Operating Expenses:
Selling expenses		3,849,347			6,988,017			11,869,164			19,604,857
General and administrative expenses		894,301			1,063,981			2,493,749			5,230,722
Research and development expense		160,795			10,534			417,184			24,455
		4,904,443			8,062,532			14,780,097			24,860,034
Income(Loss) from Operations		650,065			(451,825	)		998,444			(7,044,523	)
Other Income (Expenses):
Subsidy income		492,451			49,723			654,013			194,902
Interest expense		(213,683	)		(182,879	)		(653,722	)		(701,581	)
Other income		42,282			-			228,046			-
Other expense		(22,507	)		(2,847	)		(292,647	)		(22,038	)
		298,543			(136,003	)		(64,310	)		(528,717	)
Income (Loss) Before Income Tax		948,608			(587,828	)		934,134			(7,573,240	)
Income tax benefit (expense)		(118,370	)		401,012			(141,001	)		401,012
Net Income (Loss)		830,238			(186,816	)		793,133			(7,172,228	)
Net income(loss) attributable to noncontrolling interests		42,581			(154,892	)		34,313			(403,257	)
Net Income(Loss) Attributable to Common Stockholders	$	787,657		$	(31,924	)	$	758,820		$	(6,768,971	)
Comprehensive Income (Loss):
Net Income (Loss)		830,238			(186,816	)		793,133			(7,172,228	)
Foreign currency translation adjustment		21,221			(76,185	)		26,135			(73,064	)
Comprehensive Income (Loss):	$	851,459		$	(263,001	)	$	819,268		$	(7,245,292	)
Comprehensive income (loss) attributable to noncontrolling interests		42,617			(158,693	)		35,444			(406,947	)
Comprehensive Income (Loss) Attributable to Common Stockholders		808,842			( 104,308	)		783,824			(6,838,345	)
Basic and diluted earnings (loss) per share	$	0.04		$	(0.00	)	$	0.04		$	(0.34	)
Weighted-average number of shares outstanding-basic and diluted		19,679,400			19,679,400			19,679,400			19,679,400

See notes to condensed consolidated financial statements

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CHINA SHENGHUO PHARMACEUTICAL HOLDINGS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)

(Amounts in USD)

	Nine months Ended September 30,
	2010			2009
Net Cash Provided by Operating Activities		2,239,891			878,694
Cash Flows from Investing Activities:
Purchase of long-lived assets		(5,607,809	)		(738,350	)
Proceeds from disposal of property, plant and equipment		308,229
Net Cash Used in Investing Activities		(5,299,580	)		(738,350	)
Cash Flows from Financing Activities:
Due to related parties		-			(345,371	)
Proceeds from borrowings		24,640,172			21,227,417
Payments on borrowings		(21,904,375	)		(19,915,434	)
Net Cash Provided by Financing Activities		2,735,797			966,612
Effect of exchange rate changes on cash		40,775			4,706
Net Change in Cash and Cash Equivalents		(283,117	)		1,111,662
Cash and Cash Equivalents at Beginning of Period		1,986,540			1,612,054
Cash and Cash Equivalents at End of Period	$	1,703,423		$	2,723,716
Supplemental Information
Cash paid for interest	$	543,799		$	704,242
Cash paid for income tax	$	130,489		$	-

See notes to condensed consolidated financial statements

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CHINA SHENGHUO PHARMACEUTICAL HOLDINGS, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

NOTE 1 – ORGANIZATION AND NATURE OF OPERATIONS

(a) Nature of Business

China Shenghuo Pharmaceutical Holdings, Inc, (“CSPH”), incorporated in Delaware, United States of America, through its subsidiaries (collectively the “Company”), designs, develops, markets, sells and exports pharmaceutical, nutritional supplements and cosmetic products mainly in the People’s Republic of China (“PRC”). The Company also conducts research and development using the medicinal herb Panax notoginseng, also known as Sanqi, Sanchi, or Tienchi, which is grown in two provinces in the PRC. Sales from the cosmetic products represent less than 10% of total sales of the Company.

(b) Organization

The CSPH owns a 94.95% equity interest in Kunming Shenghuo Pharmaceuticals Co., Ltd. (“Shenghuo”). Shenghuo owns a 99% equity interest in Kunming Shenghuo Medicine Co., Ltd. (“Medicine”), a 99% equity interest in Kunming Pharmaceutical Importation and Exportation Co., Ltd. (“Import/Export”), and a 98.18% interest in Kunming Shenghuo Cosmetics Co., Ltd. (“Cosmetic”). On April 30, 2009, Shenghuo formed Shi Lin Shenghuo Co., Ltd. (“Shi Lin”) as a wholly owned subsidiary. Shi Lin was formed for the purpose of purchasing or leasing land suitable for cultivating the medicinal herb Panax notoginseng for use in the production of the Company’s medicinal products. As of September 30, 2010, Shi Lin had not generated any revenue . All other entities are formed in and operate within the PRC.

On April 23, 2010, the Company obtained the approval from the government to dissolve Kunming Beisheng Science and Technology Development Co., Ltd (“Beisheng”), a 70% owned subsidiary of CSPH. As Beisheng has not generated revenues or conducted operations, there was no material effect on the condensed consolidated financial statements of the Company.

NOTE 2 – BASIS OF PRESENTATION

The accompanying unaudited interim condensed consolidated financial statements (“condensed consolidated financial statements”) have been prepared in accordance with the accounting policies described in the Company’s Form 10-K filed on April 14, 2010 (“2009 Form 10-K”), and with the instructions to Form 10-Q and Article 8 of Regulation S-X. Accordingly, certain information and note disclosures normally included in the Company’s annual financial statements prepared in accordance with U.S. generally accepted accounting principles (“U.S. GAAP”) have been condensed or omitted. These condensed consolidated financial statements should be read in conjunction with the consolidated financial statements included in the Company’s 2009 Form 10-K.

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The condensed consolidated financial statements have been prepared on the basis that the Company will continue to operate throughout the next twelve months as a going concern.  The Company’s consolidated current liabilities exceeded its consolidated current assets by approximate USD8.3 million as of September 30, 2010, and USD6.9 million as of December 31, 2009. Based on future projections of the Company’s cash inflows from operations, reasonable estimate of revolving effect of deposits received, and the anticipated ability of the Company to obtain continued bank financing to finance its continuing operations, Management has prepared the condensed consolidated financial statements on a going concern basis.

In the opinion of management, all adjustments (which include normal recurring adjustments) necessary to present a fair statement of the Company’s condensed consolidated financial position as of September 30, 2010, its condensed consolidated results of operations for the three and nine-month periods ended September 30, 2010 and 2009 and its cash flows for the nine-month periods ended September 30, 2010 and 2009, as applicable, have been made. The interim results of operations are not necessarily indicative of the operating results for the full fiscal year or any future periods.

NOTE 3 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

(a) Principle of consolidation

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

Noncontrolling interests represents the ownership interests in the subsidiaries that are held by owners other than the parent and is part of the equity of the consolidated group. The noncontrolling interests are reported in the condensed consolidated balance sheets within equity, separately from the parent’s equity. Net income or loss and comprehensive income or loss is attributed to the parent and the noncontrolling interests. If losses attributable to the parent and the noncontrolling interests in a subsidiary exceed their interests in the subsidiary’s equity, the excess, and any further losses attributable to the parent and the noncontrolling interests, is attributed to those interests. That is, the noncontrolling interest shall continue to be attributed its share of losses even if that attribution results in a deficit noncontrolling interest balance.

(b) Income taxes

The Company follows Accounting Standards Codification (“ASC”) Topic 740, “Income Taxes”, which requires the recognition of deferred tax assets and liabilities for the expected future tax consequences of events that have been included in the financial statements or tax returns. Under this method, deferred income taxes are recognized for the tax consequences in future years of differences between the tax bases of assets and liabilities and their financial reporting amounts at each period end based on enacted tax laws and statutory tax rates, applicable to the periods in which the differences are expected to affect taxable income. Valuation allowances are established, when necessary, to reduce deferred tax assets to the amount expected to be realized.

The Company follows ASC Topic 740 prescribes a more-likely-than-not threshold for financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. This Interpretation also provides guidance on derecognizing of income tax assets and liabilities, classification of current and deferred income tax assets and liabilities, accounting for interest and penalties associated with tax positions, accounting for income tax in interim periods, and income tax disclosures. The Company did not have any interest and penalties associated with tax positions and did not have any significant unrecognized uncertain tax positions as of September 30, 2010 and December 31, 2009.

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  (c) Revenue recognition

The Company recognizes revenue in accordance with ASC Topic 605 “Revenue recognition”. All of the following criteria must exist in order for the Group to recognize revenue: (1) persuasive evidence of an arrangement exists; (2) delivery has occurred or services have been rendered; (3) price to the buyer is fixed or determinable; and (4) collectability is reasonably assured.

Delivery does not occur until products have been shipped to the wholesale companies, risk of loss has transferred to the wholesale companies and wholesale companies’ acceptance has been obtained, or the Company has objective evidence that the criteria specified in wholesale companies’ acceptance provisions have been satisfied. The sales price is not considered to be fixed or determinable until all contingencies related to the sale have been resolved.

In general, the Company does not allow wholesale companies to return products unless there are defects in manufacturing or workmanship. Sales returns are subject to a strict process and have to be authorized by Management. Sales returns are netted against sales when occurred. Historically, the amounts of sales returns have been immaterial.

(d) Fair value of financial instruments

The carrying amounts reported in the consolidated balance sheets for accounts and notes receivable, other receivables, advances to suppliers, accounts payable, advances from customers, other payables and accrued expenses, deposits payable approximated to their fair values because of the short-term maturity of these financial instruments. Management believes the interest rates on short-term borrowings and long-term borrowings reflect rates currently available in the PRC. Thus, the carrying value of these loans approximated to their fair values.

(e) Recently enacted accounting standards

Since the filing of 2009 Form 10-K, the Financial Accounting Standards Board (“FASB”) issued ASU No. 2010-12 through No. 2010-26. These ASUs entail technical corrections to existing guidance or affect guidance related to specialized industries or entities and therefore have minimal, if any, impact on the Company.

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NOTE 4 – ACCOUNTS AND NOTES RECEIVABLE, NET

 Accounts and notes receivable consisted of the following:

	September 30,		December 31,
	2010		2009
	(Unaudited)
Notes receivable	$	1,000,299	$	852,095
Accounts receivable		14,537,043		13,307,185
Total		15,537,342		14,159,280
Less: allowance for doubtful accounts		2,185,896		2,054,984
	$	13,351,446	$	12,104,296

NOTE 5 – OTHER RECEIVABLES, NET

Other receivables consisted of the following:

	September 30,		December 31,
	2010		2009
	(Unaudited)
Other receivables	$	8,707,606	$	8,345,350
Less: allowance for doubtful accounts	1,693,951			1,651,199
	$	7,013,655	$	6,694,151

 NOTE 6 – INVENTORIES, NET

Inventories consisted of the following:

	September 30,		December 31,
	2010		2009
	(Unaudited)
Raw materials	$	967,865	$	1,048,823
Work-in-process		1,424,149		2,267,289
Finished goods		839,664		706,424
Total inventories		3,231,678		4,022,536
Less: allowance		128,741		126,178
	$	3,102,937	$	3,896,358

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NOTE 7 – BORROWINGS

The Company’s borrowings are payable to banks and governmental financial bureaus. The following summarizes the Company’s debt obligations and respective balances as of September 30, 2010 and December 31, 2009:

	September 30,						December 31,
Short-term borrowings	2010						2009
	(Unaudited)
Lenders	Maturity Date	Interest Rate			Balance		Maturity Date		Interest Rate			Balance
China Construction Bank(“ CCB”), secured by land use rights, buildings and machinery	April 2010		5.31	%	$	-	April 2010			5.31	%	$	3,656,468
CCB, (note a)	(note a)		4.86	%		2,230,758	(note a)			4.86	%		1,650,992
Agricultural Bank of China (“ABC”), (note b)	December 2010		5.31	%		89,538		-		-			-
ABC,  (note b)	May 2011		5.31	%		2,536,897
Financial bureau, unsecured	Due on demand		4.50	%		76,900	Due on demand			4.50	%		75,369
Financial bureau, unsecured	Due on demand		1.80	%		74,615	Due on demand			1.80	%		73,129
					$	5,008,708						$	5,455,958

	September 30,						December 31,
Long-term borrowings	2010						2009
	(Unaudited)
Lenders	Maturity Date	Interest Rate			Balance		Maturity Date	Interest Rate			Balance
CCB, secured by land use rights, buildings and machinery	March 2010		5.40	%	$	-	March 2010		5.40	%	$	1,462,587
ABC, (note b)	April 2012		5.40	%		6,327,319
ABC, (note b)	March 2010		8.316	%		-	March 2010		8.316	%		1,462,587
ABC, (note b)	April 2011		5.40	%		746,146	April 2011		5.40	%		731,293
ABC, (note b)	August 2011		5.40	%		5,223,023	August 2011		5.40	%		5,119,055
ABC, (note b & c)	June 2010		5.40	%		447,688	June 2010		5.40	%		438,776
ABC, (note b)	December 2010		5.40	%		596,917	December 2010		5.40	%		585,035
Total long-term borrowings					$	13,341,093					$	9,799,333
less: current maturities of long- term borrowings						7,013,774						3,948,985
L long-term borrowings, net of current portion					$	6,327,319					$	5,850,348
Past due borrowing (note c)					$	447,688					$	292,517

(a) As of September 30, 2010, short-term borrowings, amounting to USD2,230,758, were pledged by accounts receivable, amounting to USD2,788,448 at interest rates of approximately 4.86%, maturing within three months from withdrawing dates.

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(b) As of September 30, 2010, the short-term and long-term borrowings from ABC was RMB107 million (approximately USD15.97 million), which was secured by land use rights, buildings, machinery and guaranteed by the CSPH’s 94.95% shares in Shenghuo.

(c) Of the aggregate amount USD15.97 million borrowed from ABC, USD447,688 past due in June 2010. However, based on the Company’s good historical credit record, the Company reached an oral agreement with the lender to extend the maturity date for this portion of the loan to December 2010. The Company did not repay the amount of the loan originally due in June 2010.

NOTE 8 – INCOME TAXES

CSPH and its consolidated entities each files tax returns individually.

The Company is not subject to any income tax in the United States. Shenghuo is qualified to enjoy preferential tax rate under relevant PRC tax laws and regulations, with effective income tax rate of 10% in 2009, 11% in 2010 and 12% in 2011. From 2012, Shenghuo will be subject to income tax at a rate of 25%. All other subsidiaries in the PRC were subject to income tax at a rate of 25% for the period presented.

For the three months ended September 30, 2010, the Company recognized an income tax expense of USD118,370 on pretax income of USD948,608, representing an effective income tax rate of 12.5%. For the nine months ended September 30, 2010, the Company recognized an income tax expense of USD141,001 on pretax income of USD934,134, representing an effective income tax rate of 15.1%. The expenses are mainly the result of an adjustment in income tax expense to reflect change in valuation of deferred tax asset of tax loss from Cosmetic, offset by the impact of tax holiday of Shenghuo.

Income tax benefit amounted to USD401,012 was recognized for the three and nine months ended September 30, 2009, on pretax loss of USD587,828 and USD7,573,240 for the three and nine months ended September 30, 2009 respectively, representing an effective income tax rate of 68.2% and 5.3% respectively, which were mainly a result of an adjustment in income tax expense to reflect change in valuation of deferred tax assets of tax loss from Medicine, offset by the impact of tax holiday of Shenghuo.

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NOTE 9 – BASIC AND DILUTED LOSS PER SHARE

	Three months Ended  September 30,							Nine months ended September 30,
	2010			2009				2010			2009
	(Unaudited)			(Unaudited)				(Unaudited)			(Unaudited)
Net income (loss) attributable to stockholders		$	787,657		$	(31,924	)		$	758,820		$	(6,768,971	)
Weighted-average number of shares outstanding-basic and diluted			19,679,400			19,679,400				19,679,400			19,679,400
Basic and diluted earnings (loss) per share		$	0.04		$	(0.00	)		$	0.04		$	(0.34	)

NOTE 10 – CONCENTRATIONS

For the three and nine months ended September 30, 2010, the Company had concentrations of purchases of raw materials from three vendors accounting for 78.5% and 61.8% respectively, as compared to 53.78% and 53.83% for the three months and nine months ended September 30, 2009, respectively.

No significant concentration on sales from single customer for the three and nine months ended September 30, 2010 and September 30, 2009, respectively.

No significant concentration on accounts receivable from single customer as of September 30, 2010 and 2009, respectively.

Approximately 91.1% and 89.4% of the sales came from a single product, Xuesaitong Soft Capsules for the three and nine months ended September 30, 2010, respectively as compared to approximately 86.7% and 85.8% for the three and nine months ended September 30, 2009, respectively.

NOTE 11 – SEGMENT REPORTING

Management regards “Medicine products” and “Cosmetic products” as their operating segments. However, no segment reporting is necessary as “Cosmetic products” does not meet the quantitative thresholds for a reportable segment. As the Group primarily generates its revenues from customers in the PRC, no geographical segments are presented.

NOTE 12 – COMMITMENTS AND CONTINGENCIES

(a)    Capital Commitment

The Company did not have any significant capital commitment as of September 30, 2010.

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(b) Operating Lease Commitment

On September 8, 2010, the Company signed an agreement with Management Commission of Kunming Shilin Taiwan Farmer Entrepreneur Centre (“Entrepreneur Centre”) to rent the land for planting suitable-for-cultivating medicinal herb for use in the production of the Company’s medicinal products and to construct a health preserving zone and travel service center. The total operating lease amounted to RMB 30.6 million (approximately USD4.6 million) with a lease term of 20 years.

As of September 30, the Company has paid USD341,883, and the operating lease commitment is summarized as below:

Year	Amount
2010		-
2011		92,709
2012		222,501
2013		222,501
2014		222,501
2014 thereafter		3,467,304
Total		4,227,516

(c)    Class Action Lawsuits

In 2008, putative class action lawsuits were asserted against the Company and certain other parties in the United States District Court for the Southern District of New York (the “Court”). On February 12, 2009, an amended complaint was served on the Company by new lead counsel for the class, consolidating the putative class actions and bearing the caption Beni Varghese, Individually and on Behalf of All Other Similarly Situated v. China Shenghuo Pharmaceutical Holdings, Inc., et al., Index No. 1:08 CIV. 7422. The defendants include the Company, the Company’s controlling shareholders, Lan’s International Medicine Investment Co., Limited, the Company’s chief executive officer, Gui Hua Lan, the Company’s former chief financial officer, Qiong Hua Gao, and the Company’s former independent registered public accounting firm, Hansen, Barnett & Maxwell, P.C.（HB&M）. Both the Company and HB&M filed motions to dismiss the complaint, but those motions were denied by the Court. The substantive allegations of the amended consolidated complaint have previously been summarized in disclosures by the Company.

On July 21, 2010, in a mediation conducted by Retired Judge Nicolas H. Politan, the Company entered into an agreement in principle with counsel for plaintiffs in this litigation and HB&M, in which the parties agreed to settle all claims by the putative class members in exchange for payments of USD200,000 by the Company and USD600,000 by HB&M’s professional liability insurer. The settlement must be approved by the Court to become effective and, on or about November 2, 2010, the plaintiffs filed a motion with the Court seeking such approval. It is anticipated that the Court will consider objections to the settlement, if any, and conduct a hearing in the coming months, after which it will determine if the settlement is approved. The Company does not have any reason to believe that the Court will reject the settlement and, accordingly, it is expected that the settlement will result in the dismissal of the class action litigation.

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NOTE 13– SUBSEQUENT EVENTS

Management has considered all events occurring after September 30, 2010 to the date the financial statements have been issued, and has determined that there are no such events that are material to the financial statements.

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

SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

The following Management’s Discussion and Analysis (“MD&A”) is intended to help the reader understand the results of operations and financial condition of China Shenghuo Phamaceutical Holdings, Inc. Throughout this document, references to “we,” “our,” the “Company” refer to China Shenghuo Phamaceutical Holdings, Inc. and its subsidiaries. MD&A should be read in conjunction with our interim condensed consolidated financial statements and the accompanying notes, and the other financial information included in this report.

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

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

· our reliance on one product for over 89% of our revenues;

· our reliance on limited suppliers for Sanchi, a scarce plant that is the primary ingredient in almost all of our products;

· replacement of our primary product by other medicines or the removal of our primary product from China’s Insurance Catalogue;

· our ability to raise additional capital needed for working capital, future operations and research and development;

· our ability to collect on advances to sales representatives;

· our reliance on our three largest customers for a significant percentage of our sales;

· our ability to effectively grow management;

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· our dependence on key personnel;

· our ability to establish and maintain a strong brand;

· the ability of our products to effectively compete with those of our competitors;

· continued receipt and maintenance of regulatory approvals, certificates, permits and licenses required to conduct business in China;

· our ability to collect on trade receivables;

· our ability to develop and market new products, including those with high profit margins;

· additional products being subject to price controls by the Chinese government;

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

· protection of our intellectual property rights;

· loss of certain tax concessions;

· our lack of insurance to cover losses due to fire, casualty or theft;

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

· changes in the foreign currency exchange rate between U.S. dollars and RMB;

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

· the effect on our operations of costs associated with the Restatement, including litigation costs;

· a downturn in the economy of the PRC or inflation in the PRC;

· our ability to establish and maintain adequate management, legal and financial controls, including effective internal controls over financial reporting;

· volatility of the market for our common stock;

· the possibility of substantial sales of our common stock;

· influence of our principal stockholder;

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· cooperation of the minority shareholder of our principal operating subsidiary;

· The pledge of the stock of our operating subsidiaries to secure the bank loan entered into in August 2009; and

· other factors listed from time to time in our filings with the Securities and Exchange Commission, including without limitation, our Annual Report on Form 10-K for the year ended December 31, 2009 and subsequent reports on Form 8-K.

The risks included above are not exhaustive. Other sections of this quarterly report may include additional factors that could adversely impact our business and operating results. Moreover, we operate in a very competitive and rapidly changing environment. New risk factors emerge from time to time and we cannot predict all such risk factors, nor can we assess the impact of all such risk factors on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward looking statements.

You should not rely upon forward-looking statements as predictions of future events. We cannot assure you that the events and circumstances reflected in the forward-looking statements will be achieved or occur. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements. Moreover, neither we nor any other person assume responsibility for the accuracy and completeness of the forward-looking statements. Except as required by law, we undertake no obligation to update publicly any forward-looking statements for any reason after the date of this report to conform these statements to actual results or to changes in our expectations.

You should read this quarterly report, and the documents that we reference in this quarterly report and have filed as exhibits to this quarterly report with the Securities and Exchange Commission, completely and with the understanding that our actual future results, levels of activity, performance and achievements may materially differ from what we expect. We qualify all of our forward-looking statements by these cautionary statements.

Overview

We are primarily engaged in the research, development, manufacture, and marketing of pharmaceutical, nutritional supplement and cosmetic products. Almost all of our products are derived from the medicinal herb Panax notoginseng, also known as Sanqi, Sanchi or Tienchi. Panax notoginseng is the root of a greyish-brown or greyish-yellow plant that only grows in a few geographic locations, including Yunnan Province in southwest China where we are located. Yunnan Province accounts for 90% of the global production of Panax notoginseng. The main root of Panax notoginseng is cylindrically shaped and is most commonly one-to-six centimeters long and one-to-four centimeters in diameter. Panax notoginseng saponins (PNS), the active ingredients in Panax notoginseng, are extracted from the plant using high-tech equipment and in accord with Good Manufacturing Practice (GMP) standards. Our main product, Xuesaitong Soft Capsules, accounted for over 89% of our sales for the nine months ended September 30, 2010. Even if the Company, as intended, leases land so it itself can grow Sanqi commencing next spring, it will continue to be as dependent for the immediate future as it is today on third party suppliers as Sanqi will take three years to mature from its growing to realize the first yield.

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We earn revenues mainly from the production and sale of our products and external processing. We hope to increase profits as a result of making new products and increasing sales, since the sale of products is our main source for generating cash. Our business involves a significant degree of risk as a result of the opportunities and challenges we face in selling our products. We have traditionally focused on research and development of products serving cardiovascular and cerebrovascular disease, peptic ulcer disease and health products markets, but we intend to devote additional resources to research and development and to continue to evaluate and develop additional product candidates to expand our pipeline where we perceive an unmet need and commercial potential, as well as to improve existing products to enhance their efficacy.

With intense price competition among many similar or identical products in the industry, we believe that building brand equity is the primary means to generate and sustain profitable growth in the future. Our brand strategy is centered on “Lixuwang” – the brand under which most of our products are sold. We believe that our relationships within the Chinese pharmaceutical industry are key to building brand equity, and we believe we can benefit from developing and maintaining relationships with professionals within the industry, especially physicians and hospitals.

On July 1, 2010, the updated State Insurance Catalogue became effective. Xuesaitong Soft Capsules, our primary product, was not included in Part B of the State Insurance Catalogue as it has been since 2005.  Banlangen Tablets, Dansheng Tablets and Sulfadiazine Silver Ointment remain listed in the updated State Insurance Catalogue. Patients purchasing medicines included in Part B are entitled to reimbursement of about 90% of the costs of such medicines. As also previously disclosed, there is an alternative route to achieve a similar result. That is, for Xuesaitong Soft Capsules to be included in the Provincial Insurance Catalog of each of the 31 Chinese provinces. This will allow the patient purchasing such drug to receive the same 90% reimbursement as if such drug were listed on Part B of the State Insurance Catalogue. The Company has applied for provincial listing in 31 provinces. As of November 12, 2010, Xuesaitong Soft Capsules has been listed in the 2010 Provincial Insurance Catalogs of the following eleven provinces: Tianjin, Jiangsu, Hebei, Henan, Shanghai, Heilongjiang, Fujian, Anhui, Guangdong, Yunnan and Beijing. The total percentage of sales derived from Xuesaitong Soft Capsules in these provinces account for 60% in 2009 and 66% for the nine months ended September 30, 2010.  Xuesaitong Soft Capsules has been delisted from the 2010 Provincial Insurance Catalogs of Zhejiang, Jiangxi, Jilin, Liaoning, Shangdong and Shanxi provinces where it generates a sales of 17% in 2009 and 15% for the nine months ended September 30, 2010. The 2010 Provincial Insurance Catalogs for the rest of the fourteen provinces have not been announced. Thus, Xuesaitong Soft Capsules remains listed on their 2009 Provincial Insurance Catalogs and patients continue to be reimbursed. The sales of Xuesaitong Soft Capsules generated in these provinces account for 23% in 2009 and 19% for the nine months ended September 30, 2010. Xuesaitong Soft Capsules accounted for 85% of the Company's revenues in 2009. Should the Company fail to receive provincial approval in the major provinces in which it is sold, such failure could have a material adverse impact on the Company. The Company is in the process of developing a pipeline of proprietary formulations of other drug compounds. However, such formulations have not been finalized or submitted to State Food and Drug Administration (“SFDA”) for review and approval. This process is time-consuming and capital intensive and there is no assurance that SFDA will accept the data presented by the Company without requiring additional data and that, ultimately, the application for drug approval will be successful. Therefore, in the near term the Company is dependent on the sales of Xuesaitong Soft Capsules and on the efforts to get it listed on the Provincial Insurance Catalogs of the rest of the fourteen provinces.

Further, the Department of Heath in China, which makes an independent assessment of the drugs available, publishes an “essential drug list” as to what drugs are basic and prevalent and can satisfy the ordinary need for drugs to all the people. If a drug is listed on the “essential drug list,” it is automatically included in Part A of the State Insurance Catalogue. The Company’s Xuesaitong Soft Capsules were listed on the “essential drug list” in 2000 and 2004 and the Company is attempting to have the drug relisted on that list in 2010 to mitigate and even improve its position with respect to drug reimbursement for patients.

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The wholesale and retail prices of medicines that are included in the national and provincial insurance catalogs are subject to price controls administered by the Price Control Office under the National Development and Reform Commission, or the NDRC, or their provincial price control authorities. Since Xuesaitong Soft Capsules is no longer listed in the 2010 State Insurance Catalog and the 2010 Provincial Insurance Catalogs of Zhejiang, Jiangxi, Jilin, Liaoning, Shangdong and Shanxi provinces, it is no longer subject to the state price control and provincial price controls in that six provinces. However, since Xuesaitong Soft Capsules is still listed in the insurance catalogs of the rest of the twenty-five provinces, its price is still subject to price control administered by the price control authorities in those provinces. Xuesaitong Soft Capsules is primarily sold in China, but the product is also sold in various developing countries, including Malaysia, Indonesia and Kyrgyzstan. Sales of the product in China are regulated by the SFDA as a prescription drug and therefore must be sold to consumers through hospital pharmacies and cannot be advertised, thus limiting the ability of the Company to market the brand. We sell Xuesaitong Soft Capsules to wholesale companies who resell them to hospital pharmacies. Our three main customers are Yunnan Medicine Co., Guangzhou Medicine Co., Ltd.; Tianjing Zhongxing Medicine Co., Ltd; and Ltd. And these three wholesale companies’ sales account for 8.82%, 8.73% and 7.29% of our sales respectively for the nine months ended September 30, 2010. As noted above, Tianjin, Guangzhou and Yunnan have included Xuesaitong Soft Capsules in their 2010 Provincial Insurance Catalogs.

We have established sales offices in many cities in China that manage sales representatives according to our internal management rules and sales policy. Because the main product “Xuesaitong” capsule is sold to hospitals through regional wholesale companies located in the various cities of China and because China has thousands of wholesale companies, we employ a large number of sales representatives to expand into new markets and gain new customers.

As of September 30, 2010, our medicine marketing team maintains sales offices or agents in approximately 31 provinces throughout China. The sales network covers approximately 210 cities and is staffed by approximately 643 sales representatives. We intend to grow our internal marketing and sales function and increase our relationships with other national wholesale companies to expand the distribution and presence of our non-prescription brands and cosmetics.

We started to expand our business into the OTC market in selected areas around China since 2009. The gross sales of Lixuwang in the OTC market in Yunnan province amounted to RMB 9.92 million, resulting in a profit realized by the Company of approximately RMB 1.98 million during the nine months of 2010. Based on these positive results, we will continue to expand our presence in the OTC market in the rest of months of 2010 in provinces such as Jiangsu, Fujian, Guangdong and Zhejiang. The Company reimburses the sales representatives their accrued selling expenses when related accounts receivable are collected.

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We hope to further expand sales beyond China into other countries where our products could be affordable treatment options. We intend to focus on the expansion of our cosmetics product line and devote additional marketing and sales resources to that end with the aim that our cosmetics products will account for a larger percentage of our revenue in the future.

Our business is capital intensive, and these research and development, marketing, sales network expansion and cosmetic product expansion initiatives will require us to expend significant cash resources, which could adversely affect our profitability and liquidity. We do face certain challenges and risks, including our relatively high debt ratio, which is one of our main risks. We also regularly incur significant expenses in our efforts to maintain the continued listing status of the Company on an exchange. We have encountered a shortage of working capital and are exploring possible ways to address our short and long term cash needs.

We believe that among the most important economic or industry-wide factors relevant to our growth in the short term are the reform of the medical system in China and the adjustment of medicine prices, which will affect the sale of our main product, Xuesaitong Soft Capsules, in hospitals. In order to increase long-term growth, we previously applied for the designation of Xuesaitong Soft Capsules as a medicine with “good quality worthy of high price,” which designation we received in February 2007. Currently, the Chinese government supports the medical system in urban and rural communities, which we believe will lead to a sustained increase in the sales of prescription medicines in the future.

According to data from the Yunnan Pharmaceutical Industry Association, the pharmaceutical industry in China grew about 21.02% on a year-over-year basis in 2009. This growth was driven by a number of favorable factors including improving standards of living from an increase in disposable income, an aging population, the improving access and higher participation in the State Basic Medical Insurance System, and the increase in government spending on public health care.

On January 21, 2009, the Chinese government announced a healthcare reform plan pursuant to which the government would spend upward of RMB 850 billion over the next three years to make medical services and products more affordable and accessible to the entire population. We believe the successful implementation of the policies outlined in the plan will have a significant impact on the domestic pharmaceutical sector. There are five key tasks the healthcare reforms are aiming to address: 1) expanding medical insurance coverage and increasing participation rates, 2) initiating a national basic drug system, 3) establishing an extensive public health system, 4) increasing the efficiency and improving the quality of basic medical services, especially in the rural areas, and 5) reforming state-owned hospitals.

Traditional Chinese Medicine (“TCM”), including prescription and over-the-counter pharmaceuticals, has been widely used in China for many years and is an important part of the overall Chinese culture. The recently announced healthcare reform plan contains measures and policies that we believe will help support and promote the growth and development of the domestic TCM market. TCM drug manufacturers are likely to benefit from this reform as we believe the government will add more TCM-related drugs to the national medicine catalogue. In addition, we expect the government will focus on disease prevention as it rolls out the nationwide medical insurance coverage. The TCM market is a vibrant and growing industry despite the challenging economic environment and it will remain a part of mainstream medicine in China.

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We hope to stabilize the sales channel into hospitals and widen the reach of sales in urban and rural communities at the same time. Large increases in medicine sales at an average lower price will ensure the growth of general medicinal sales over the next few years. Also, we are focusing our efforts on developing better channels for selling our products to expand our revenue and to counter in fierce market competition. To that extend, we began to build relationships with new high-quality sales agents and terminate our relationships with sales agent with poor historical performances during 2009. We believe that this shift will provide a sound foundation for our operation going forward.

Our 12 WaysTM Chinese Traditional Medicine Beauty Salon Series (“12 Ways”) cosmetic products are sold in a number of cities and provinces in China. We have opened a number of retail specialty counters to offer our cosmetic products at pharmacies and other locations such as supermarkets and shopping malls throughout Eastern China, with the ultimate intent of expanding our retail presence across China. As of September 30, 2010, we have opened approximately 980 retail specialty counters in more than 30 cities, including Kunming, Nanjing, Chongqing, Chengdu, Wuhan, Heifei, Yantai and Puer, and so on. In addition, we opened a 12 Ways Chinese Herbal Beauty Salon in Kunming that will feature approximately ten traditional Chinese medicine practitioners and beauticians that provide a variety of services, including acupuncture, body massage, foot massage and other services. All products used in the salon will be supplied by us. Management hopes that the opening of this salon and the opening of retail counters will allow us to increase our brand recognition and strengthen marketing. Our ability to effectively open and operate new retail locations depends on several factors, including, among others, our ability to identify suitable counter locations, the availability of which is outside our control; our ability to prepare counters for opening within budget; our ability to hire, train and retain personnel; our ability to secure required governmental permits and approvals; our ability to contain payroll costs; and our ability to generate sufficient operating cash flows or secure adequate capital on commercially reasonable terms to fund short term cash needs and our expansion plans.

There is potential for growth in production and sales due to the growth of new products and expansion of new channels into urban and rural communities. However, it will be uncertain which of our new products will pass the applicable tests and receive clinical approval without difficulty because of the uncertainty of test results and clinical approvals. Over the last three years, the price of the main raw material we use - Sanchi - has risen. We expect this trend to continue and will likely increase our cost of product sold. In addition, our expected increased expenses for research and development, marketing and sales may have a short-term adverse affect on future profit levels and available cash resources.

Critical Accounting Policies and Estimates

The details of the critical accounting policies and estimates relevant to the Company are set out in Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2009.

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Results of Operations

Three Months Ended September 30, 2010 and 2009

The following table sets forth our statements of operations for the three months ended September 30, 2010 and 2009 in U.S. dollars (unaudited):

	Three months ended September 30,
	2010			2009			Change ($)			Variance (%)
Sales	$	8,551,182		$	10,558,218			(2,007,036	)		(19	)%
Cost of Sales		2,996,674			2,947,511			49,163			2	%
Gross Margin		5,554,508			7,610,707			(2,056,199	)		(27	)%
Operating Expenses:
Selling expenses		3,849,347			6,988,017			(3,138,670	)		(45	)%
General and administrative expenses		894,301			1,063,981			(169,680	)		(16	)%
Research and development expenses		160,795			10,534			150,261			1426	%
		4,904,443			8,062,532			(3,158,089	)		(39	)%
Income (Loss) from Operations		650,065			(451,825	)		1,101,890			(244	)%
Other Income (Expenses)		298,543			(136,003	)		434,546			(320	)%
Income (Loss) Before Income Tax Expenses		948,608			(587,828	)		1,536,436			(261	)%
Income tax benefit (expense)		(118,370	)		401,012			(519,382	)		(130	)%
Net Income (Loss)		830,238			(186,816	)		1,017,054			(545	)%
Net income attributable to noncontrolling interests		42,581			(154,892	)		(197,473	)		(128	)%
Net Income (Loss) Attributable to Common Stockholders	$	787,657		$	(31,924	)	$	819,581			(2567	)%
Basic and diluted earnings (loss) per share	$	0.04		$	(0.00	)	$	0.04			(2567	)%
Weighted-average number of shares outstanding-basic and diluted		19,679,400			19,679,400			-			0	%

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Sales: Sales for the three months ended September 30, 2010 was approximately $8.55 million, a decrease of approximately $2 million, or 19 %, from approximately $10.56 million for the three months ended September 30, 2009. The decrease was mainly due to the Company adjusted our sales commission policy to decrease the commission to sales representatives, which led to the decrease of the sales in the third quarter.

Since the spring of 2010, we faced a challenge of insufficient supply of our major material-Sanqi in Yunnan Province, where has suffered the worst drought in 50 years from last autumn to this spring. The output of Sanqi decreased sharply, resulting in the price of Sanqi increased remarkably. In order to release the pressure from increasing cost, the Company decided to adjust our sales commission policy to decrease the commission to sales representatives by 10% as compared to that in the first quarter, which led to the decrease of the sales. The commission policy is subject to adjustment from time to time according to the sales in the market. The Company in August has slightly increased its sales commission, as a result of a slight decrease in its cost of Sanqi.

Cost of sales: Our cost of sales for the three months ended September 30, 2010 was approximately $3 million, an increase of $0.05 million, or 2%, from approximately $2.95 million for the three months ended September 30, 2009. The increase in cost of sales was primarily due to the increase of the price of our main raw material which was caused by serious drought offset by the decreased sale volume.

Gross margin: Our gross margin for the three months ended September 30, 2010 was approximately $5.6 million as compared with approximately $7.6 million for the three months ended September 30, 2009, a decrease of $2 million, or 27%. Gross margin as a percentage of revenues was approximately 65% for the three months ended September, 2010, a decrease of 7.1 % from 72.1% for the three months ended September 30, 2009. The decrease in gross margin percentage was primarily due to the increase of raw material price.

Selling expense: Selling expenses were approximately $3.85 million for the three months ended September 30, 2010, a decrease of $3.14 million, or 45%, from approximately $6.99 million for the three months ended September 30, 2009. The primary reasons for the decrease in selling expenses were: i) our adjustment on the commission policy to sales representatives as set forth above; ii) the strengthened control on the travel expense, business entertainment expense, etc.; iii) the decreased expense on OTC market development as compared to that of in 2009, since when we started to expand our business into the OTC market in selected areas around China.

We reimburse the sales representatives their selling and marketing expenses when they submit the appropriate documentation to be reimbursed and their sales are collected. We reimburse the sales representatives their accrued selling expenses when related accounts receivable are collected.

General and administrative expense: General and administrative expenses were approximately $0.89million for the three months ended September 30, 2010, a decrease of $0.17 million, or 16%, from approximately $1.06 million for the three months ended September 30, 2009, which was mainly due to strengthened control on professional fee.

Research and development expense: Research and development expense for the three months ended September 30, 2010 was $160,795, as compared to $10,534 for the period ended September 30, 2009, an increase of approximately $150,261 or 1426%. The increase was primarily due to the increase in the expenditure on one of our innovative medicines- Dencichine Hemostat and the cooperation with external experts since late 2009.

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Other income (expenses): Other income were $298,543 for the three months ended September 30, 2010, which consisted of subsidy income, interest income, non-operating income offset by interest expense and non-operating expense, an increase of $434,546, or 320%, from expense of $136,003 for the three months ended September 30, 2009. The increase was mainly attributable to the subsidy income we received from the government in the third quarter of 2010.

Net income (loss) attributable to common shareholders: Net income increased to $787,657 for the three months ended September 30, 2010 as compared to net loss of $31,924 for the three months ended September 30, 2009. The increase in net income was primarily due to the decrease of selling expenses and increase of subsidy income.

Nine Months Ended September 30, 2010 and 2009

The following table sets forth our statements of operations for the nine months ended September 30, 2010 and 2009 in U.S. dollars (unaudited):

	Nine months ended September 30,
	2010			2009			Change ($)			Variance(%)
Sales	$	23,340,191		$	25,459,077			(2,118,886	)		(8	)%
Cost of Sales		7,561,650			7,643,566			(81,916	)		(1	)%
Gross Margin		15,778,541			17,815,511			(2,036,970	)		(12	)%
Operating Expenses:
Selling expenses		11,869,164			19,604,857			(7,735,693	)		(40	)%
General and administrative expenses		2,493,749			5,230,722			(2,736,973	)		(52	)%
Research and development expenses		417,184			24,455			392,729			1606	%
		14,780,097			24,860,034			(10,079,937	)		(41	)%
Income (Loss) from Operations		998,444			(7,044,523	)		8,042,967			(114	)%
Other Expenses		(64,310	)		(528,717	)		464,407			(88	)%
Income (Loss) Before Income Tax Expenses		934,134			(7,573,240	)		8,507,374			(112	)%
Income tax benefit (expense)		(141,001	)		401,012			(542,013	)		(135	)%
Net Income (Loss)		793,133			(7,172,228	)		7,965,361			(111	)%
Net income attributable to noncontrolling interests		34,313			(403,257	)		437,570			(109	)%
Net Income (Loss) Attributable to Common Stockholders	$	758,820		$	(6,768,971	)	$	7,527,791			(111	)%
Basic and diluted earnings (loss) per share	$	0.04		$	(0.34	)	$	0.38			(112	)%
Weighted-average number of shares outstanding-basic and diluted		19,679,400			19,679,400			-			0	%

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Sales: Sales for the nine months ended September 30, 2010 were approximately $23.3 million, a decrease of approximately $2.2 million, or 8%, from approximately $25.5 million for the nine months ended September 30, 2009. The decrease in sales was primarily due to the adjustment on the commission policy which had impact on our sales as set forth above.

Cost of sales: Our cost of sales for the nine months ended September 30, 2010 was approximately $7.56 million, a decrease of $0.82 million, or 1 %, from approximately $7.64 million for the nine months ended September 30, 2009. The decrease in cost of sales was primarily due to the decrease of sales.

Gross margin: Our gross margin for the nine months ended September 30, 2010 was approximately $15.78 million as compared with approximately $17.82 million for the nine months ended September 30, 2009. Gross margin as a percentage of revenues was approximately 68% for the nine months ended September 30, 2010, a decrease of 2% from 70% for the nine months ended September 30, 2009. The decrease in gross margin was primarily due to the increase of the price of raw material, offset by improvement on the manufacturing technique.

Selling expenses: Selling expenses were approximately $11.87 million for the nine months ended September 30, 2010, a decrease of approximately $7.73 million, or 40%, from approximately $19.6 million for the nine months ended September 30, 2009. The primary reasons for the decrease in selling expenses were: i) our adjustment on the commission policy to sales representatives as set forth above; ii) the strengthened controlling on the travel expense, business entertainment expense, etc.; iii) the decreased expense on OTC market development as compared to that of in 2009, since when we started to expand our business into the OTC market in selected areas around China.

We reimburse the sales representatives their selling and marketing expenses when they submit the appropriate documentation to be reimbursed and their sales are collected. We reimburse the sales representatives their accrued selling expenses when related accounts receivable are collected.

General and administrative expenses: General and administrative expenses were approximately $2.49 million for the nine months ended September 30, 2010, a decrease of approximately $2.74million, or 52%, from approximately $5.23 million for the nine months ended September 30, 2009. The decrease was primarily due to the Company has provided significant bad debt provision and incurred large amount of professional fee related to SEC investigation in 2009.

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Research and development expenses: Research and development expense for the nine months ended September 30, 2010 was $417,184 as compared to $24,455 for the nine months ended September 30, 2009. The increase was primarily due to our focus on a few innovative medicines- Dencichine Hemostat and the cooperation with external experts since late 2009.

Other expense: Other expense, which includes interest expense and non-operating expense, offset by subsidy income, interest income, non-operating income, was $64,310 for the nine months ended September 30, 2010 as compared to $528,717 for the nine months ended September 30, 2009, a decrease of $464,407 or 88%. The decrease in other expense was primarily due to i) the increased subsidy income; ii) gain on disposal of property in 2010; and iii) offset by expenses related to the settlement of class action lawsuit.

Net income (loss) attributable to common stockholders: We created a net income of $758,820 for the nine months ended September 30, 2010 as compared to a net loss of $6.77 million for the nine months ended September 30, 2009, an increase of approximately $7.53 million. The increase in net income was primarily due to the sharp decrease of $7.7 million in selling expense and the decrease of $2.74 million in general and administrative expense. 

Liquidity and Capital Resources

General – As of September 30, 2010, we had cash and cash equivalents of $ 1.7 million. We have historically financed our business operations through bank loans, in addition to equity offerings. In the third quarter of 2010, the Company created a net income of $830,238 although we suffered sharp increase of raw material’s price from this spring.

For the nine months ended September 30, 2010, we had net cash provided by operating activities of $2.24 million, an increase of $ 1.4 million from $0.88 million for the nine months ended September 30, 2009. We believe that we would be able to obtain more cash flows from operating activities by strengthen control on working capital management.

Cash flow 

	Nine months ended September 30,
	2010		2009
	Unaudited		Unaudited
	(in thousands)
Net cash provided by operating activities	$	2,239		$	879
Net cash used in investing activities		(5,300)			(738)
Net cash provided by financing activities		2,736			967
Cash and Cash Equivalents at End of Period	$	1,703		$	2,724

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Operating Activities: Net cash provided by operating activities for the nine months ended September 30, 2010 was $2.24 million, as compared to net cash provided by operating activities of $0.88 million for the nine months ended September 30, 2009. This result reflected the impact i) an increase of approximately $1.8 million in cash advance from customers and deposits received from sales representatives; ii) a decrease of aproximately $0.86 million in inventory; iii) offset by increase of $1.7 million notes and accounts receivables, other receivables and addvance to suppliers.

Investing Activities: Net cash used in investing activities was $5.3 million for the nine months ended September 30, 2010, as compared to net cash used in the amount of $0.74 million for the nine months ended September 30, 2009. The increase in net cash used in investing activities was primarily due to the significant increases in capital expenditures, specifically, the construction of Shenghuo Plaza.

After the construction is completed and the Shenghuo Plaza is put into use, part of the Shenghuo Plaza will be used to open a technology demonstration center of 12 Ways Chinese Herbal Beauty Salon, where 12 ways cosmetics will be used and promoted and our beauticians from all over the country will be trained in the center; the remaining part of the Shenghuo Plaza will be opened for business as a business hotel. Shenghuo Plaza is expected to completed and put into operation at the end of this year. The final construction budget of Shenghuo Plaza is approximately RMB 120 million. In May, 2010, we have entered into an agreement with Kunming Tianzhiheng Hotel Management Co., Ltd (“Tianzhiheng”) to establish a company to operate the business hotel. Tianzhiheng agreed to invest RMB25 million into the construction of the hotel.

Financing Activities: Net cash provided by financing activities was approximately $2.74 million for the nine months ended September 30, 2010 compared to net cash provided in the amount of $0.97 million for the nine months ended September 30, 2009. The increase in cash provided was primarily due to the increase of loans borrowed from banks.

Working Capital Deficiency

Our consolidated current liabilities exceeded our consolidated current assets by $8.3 million as of September 30, 2010, and $6.9 million as of December 31, 2009.

As of September 30, 2010, our net accounts and notes receivable (less allowance for doubtful accounts of approximately $2.19 million) were approximately $13.35 million, an increase of approximately $1.25 million, from $12.1 million (net of allowance for doubtful accounts of $2.05 million) as of December 31, 2009. In order to maintain our existing market and customers and further to expand our sales in the increasingly competitive business environment, the Company decided to allow some of our customers historically with good credit to extend their credit terms, which led to the increase of the accounts receivable.

Before 2009, we made significant cash advances to our sales representatives to assist and encourage them to expand the marketing and sales of our products into new markets and to develop new customers. We believed that the sales representatives would be better able to expand into new markets and to secure new customers if they were advanced funds for their travel, meals and other incidental expenses that arose in connection with their sales activities. Prior to September 2006, we did not ask sales representatives to pay off advances immediately because the Chinese economy has grown quickly and because competition in the pharmaceutical industry is intense. Instead, we encouraged sales representatives to expand their markets and gain more customers. However, beginning in September 2006, we began to more vigorously pursue collection of all sales representative advances. Nonetheless, there are some sales representative advances that have aged so significantly that, based on prior experience, we do not expect to collect on every outstanding advance and have estimated the uncollectible balance based on the age of the advances. Pursuant to the policies adopted at the beginning of 2009, instead of advancing sales representatives money to sustain or develop markets, we reimburse sales representatives their selling and marketing expenses when they present expense vouchers. Management considers this a better way to manage the potential for bad debts on the advances to sales representatives. We pay the accrued selling expenses only when we collect an account receivable for which a sales representative has presented his expense receipts. Because we offer a grace period of one-to-three months to our clients for remitting payments due, the accrued sales expenses may remain outstanding for however long it takes to collect the corresponding accounts receivable.

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As of September 30, 2010, our accounts payable were approximately $3.24 million, a decrease of $1.50 million, from $4.74 million as of December 31, 2009. The decrease of accounts payable is mainly attributed to the outstanding payment for construction of Shenghuo plaza as of December 31, 2009 has been settled in the current period.

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. We require our sales representatives to pay a certain percentage of the sales price as deposit before we ship products to the customers. The deposit were approximately $7.92 million as of September 30, 2010, increased $0.88 million, from approximately $7.04 million as of December 31, 2009, primarily due to the increase of the accounts receivable set forth above because we don’t return the deposits to our sales representatives until they collect account receivables from our customers.

The other payables and accrued expense decreased by $0.51 million, from $10.1 million as of December 31, 2009 to $ 9.59 million as of September, 2010. The decrease of accrued expense balance was primarily due to the decrease in legal counsel fees attributed to the SEC investigation which started in February 2009 and concluded in September 2009.

To the extent that we cannot satisfy our cash needs, whether from operations or from a financing source, our business may be impaired in that it may be difficult for us to obtain products which could, in turn, impair our ability to generate sales.

Further, in May, 2010, we renewed the factoring agreement with China Construction Bank (the “CCB”) to transfer our accounts receivable with full recourse, and the proceeds received from CCB being recognized as secured borrowings. Under this renewed factoring agreement, CCB agrees to provide the Company a maximum of RMB 28.8 million ($4.2 million) factoring advance until May 4, 2011. As of September 30, 2010, short-term borrowings, amounting to RMB 15 million (approximately $2.23 million), were pledged by accounts receivable, amounting to RMB 18.69 million (approximately $2.79 million) under this factoring agreement.

The completion of Shenghuo Plaza is expected to generate more cash flows and increase our ability to obtain additional financing from banks. After the completion of Shenghuo Plaza by the end of 2010, we plan to borrow an additional $11.76 million by pledging it.

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Considering the financial resources presently available, we are confident that we have sufficient working capital for our present requirements and for at least the next 12 months. This assumes, of which there can be no assurance, that the remaining provinces in which we sell a significant amount of Xuesaitong Soft Capsules will list such capsules in their respective 2010 Provincial Insurance catalogs. We will continue to make efforts to expand our sales to get more cash flow.

However, we may require additional capital for acquisitions, for expanding business to related fields, or for the operation of the subsidiaries and there is no assurance that such funding will be available. Please see Note 7 –Borrowings in the Condensed Consolidated Financial Statements.

Off-Balance Sheet Arrangements

None.

Foreign Currency Risk

Since all of our operations are conducted in the PRC, we are subject to special considerations and significant risks not typically associated with companies operating in the United States of America. These risks include, among others, the political, economic and legal environments and foreign currency exchange rate fluctuations. Our operational results may be adversely affected by changes in the political and social conditions in the PRC, and by changes in governmental policies with respect to medical reforms and other laws and regulations, anti-inflationary measures, currency conversion and remittance abroad, and rates and methods of taxation, among other things. Exchange rate fluctuations may adversely affect the value, in U.S. dollar terms, of our net assets and income derived from our operations in the PRC. In addition, all of our revenue is denominated in the Chinese Yuan Renminbi (“RMB”), which must be converted into other currencies before remittance out of the PRC. Both the conversion of RMB into foreign currencies and the remittance of foreign currencies abroad require approval of the PRC government. The effect of the fluctuations of exchange rates is not considered to be material to our business operations.

Interest Rate Risk

We do not have significant interest rate risk, as our debt obligations are primarily fixed interest rates.

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Smaller reporting companies are not required to provide the information required by this Item.

ITEM 4T. CONTROLS AND PROCEDURES

Disclosure controls and procedures

Our management, with the participation of our chief executive officer and chief financial officer, Messrs. Gui Hua Lan and Mr. Chuanxiang Huang respectively, evaluated the effectiveness of our disclosure controls and procedures. The term “disclosure controls and procedures,” as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act, means controls and other procedures of a company that are designed to ensure that information required to be disclosed by a company in the reports, such as this report, that it files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is accumulated and communicated to the Company’s management, including its principal executive and principal financial officers, as appropriate to allow timely decisions regarding required disclosure. Management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving their objectives and management necessarily applies its judgment in evaluating the cost-benefit relationship of possible controls and procedures. Based on that evaluation, Mr. Lan and Mr. Huang concluded that despite improvements in areas of previously identified weakness in internal control over financial reporting identified (described in Item 9A of our Annual Report on Form 10-K for the year ended December 31, 2009), our disclosure controls and procedures were not effective as of September 30, 2010.

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Changes in Internal Control over Financial Reporting

There were no changes in our internal control over financial reporting that occurred during the quarter ended September 30, 2010 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

PART II - OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

Class Action Lawsuit – In 2008, putative class action lawsuits were asserted against the Company and certain other parties in the United States District Court for the Southern District of New York (the “Court”). On February 12, 2009, an amended complaint was served on the Company by new lead counsel for the class, consolidating the putative class actions and bearing the caption Beni Varghese, Individually and on Behalf of All Other Similarly Situated v. China Shenghuo Pharmaceutical Holdings, Inc., et al., Index No. 1:08 CIV. 7422. The defendants include the Company, the Company’s controlling shareholders, Lan’s International Medicine Investment Co., Limited, the Company’s chief executive officer, Gui Hua Lan, the Company’s former chief financial officer, Qiong Hua Gao, and the Company’s former independent registered public accounting firm, Hansen, Barnett & Maxwell, P.C. （HB&M）. Both the Company and HB&M filed motions to dismiss the complaint, but those motions were denied by the Court. The substantive allegations of the amended consolidated complaint have previously been summarized in disclosures by the Company.

On July 21, 2010, in a mediation conducted by Retired Judge Nicolas H. Politan, the Company entered into an agreement in principle with counsel for plaintiffs in this litigation and HB&M, in which the parties agreed to settle all claims by the putative class members in exchange for payments of USD200,000 by the Company and USD600,000 by HB&M’s professional liability insurer. The settlement must be approved by the Court to become effective and, on or about November 2, 2010, the plaintiffs filed a motion with the Court seeking such approval. It is anticipated that the Court will consider objections to the settlement, if any, and conduct a hearing in the coming months, after which it will determine if the settlement is approved. The Company does not have any reason to believe that the Court will reject the settlement and, accordingly, it is expected that the settlement will result in the dismissal of the class action litigation.

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ITEM 1A. RISK FACTORS

Except as reflected in this Form 10-Q, there have been no material changes from the risk factors previously disclosed in Item 1A of our Annual Report on Form 10-K for the year ended December 31, 2009.

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

None.

ITEM 3. DEFAULTS UPON SENIOR SECURITIES

None.

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

None.

ITEM 5. OTHER INFORMATION

None.

ITEM 6. EXHIBITS

Exhibit Number	Description of Exhibit
10.1	English translation of the Lease Agreement between Kunming Shenghuo Pharmaceutical (Group) Co.,Ltd and Management Commission of Kunming Shilin Taiwan Farmer Entrepreneur Centre dated September 8, 2010.
31.1	Certification of the Chief Executive Officer pursuant to Exchange Act Rule 13a-14(a) or 15d-14(a).
31.2	Certification of the Chief Financial Officer pursuant to Exchange Act Rule 13a-14(a) or 15d-14(a).
32.1	Certification pursuant to 18 U.S.C. 1350, as adopted pursuant to Section 906 of the Sarbanes Oxley Act of 2002.*

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

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

	CHINA SHENGHUO PHARMACEUTICAL HOLDINGS, INC.        (Registrant)
November 12, 2010	By:	/s/ Gui Hua Lan
		Gui Hua Lan
		Chief Executive Officer and Chairman of the Board

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