China Du Kang (CDKG) 10-Q 2013 Q3 Quarterly report

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 September 30, 2013

o TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE EXCHANGE ACT

For the transition period from____to____

Commission File No. 333-157281

CHINA DU KANG CO., LTD.

(Exact name of Registrant as specified in its charter)

NEVADA	90-0531621
(State or other jurisdiction of incorporation or organization)	(IRS Employer Identification No.)

Town of Dukang, Baishui County,

A-28, Van Metropolis, #35 Tangyan Road,

Xi'an, Shaanxi, PRC, 710065

(Address of principal executive offices) 

8629-88830106-822

(Issuer's telephone number)

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 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 definitions of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

o  Large Accelerated Filer o Accelerated Filer o Non-accelerated Filer x 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

State the number of shares outstanding of each of the issuer's classes of common equity, as of the latest practicable date: November 19, 2013: 100,113,791 shares of common stock

China Du Kang Co., Ltd.

FORM 10-Q

TABLE OF CONTENTS

		Page No.
PART I.	FINANCIAL INFORMATION
Item 1.	Financial Statements.		3
	Consolidated Balance Sheets as of September 30, 2013 (unaudited) and December 31, 2012 (audited)		3
	Consolidated Statements of Operations for the three and nine months ended September 30, 2013 and 2012 (unaudited)		4
	Consolidated Statement of Comprehensive Income for the three and nine months ended September 30, 2013 and 2012 (unaudited)		5
	Consolidated Statements of Cash Flows for the three and nine months ended September 30, 2013 and 2012 (unaudited)		6
	Notes to Consolidated Financial Statements		7-34
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations		35
Item 3.	Quantitative and Qualitative Disclosures About Market Risk		39
Item 4.	Controls and Procedures		39
PART II.	OTHER INFORMATION
Item 6.	Exhibits		40
	Signatures		41

2

ITEM 1 - FINANCIAL INFORMATION

­

CHINA DU KANG CO., LTD. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

	September 30,			December 31,
	2013			2012
	(unaudited)
ASSETS
Current Assets:
Cash and cash equivalents	$	370,349		$	681,702
Notes receivable		32,513			-
Accounts receivable (Note 5)		450,043			541,246
Others receivable		52,567			26,517
Prepaid expenses (Note 6)		1,459,577			1,244,199
Inventories (Note 7)		8,214,246			6,962,485
Total current assets		10,579,295			9,456,149
Property, Plant and Equipment, net (Note 8)		4,276,365			4,245,296
Intangible assets, net (Note 9)		2,028,360			2,006,989
Long-term investment		1,950,775			1,899,907
Total Assets	$	18,834,795		$	17,608,341
LIABILITIES AND SHAREHOLDERS' EQUITY
Current Liabilities:
Accounts payable	$	2,190,245		$	1,068,104
Accrued expenses (Note 10)		459,189			336,130
Others payable		122,597			64,541
Taxes payable (Note 11)		714,163			661,838
Deferred revenue (Note 12)		3,388,386			4,174,197
Security deposit		83,884			81,695
Government subsidiary advance		195,078			-
Lease liability-current		78,861			83,926
Total Current Liabilities		7,232,403			6,470,431
Long-term Liabilities:
Lease liability-long-term		711,771			770,016
Total Long-term Liabilities		711,771			770,016
Total Liabilities		7,944,174			7,240,447
Commitments and Contingencies (Note 17)		-			-
Shareholders' Equity:
China Du Kang Co., Ltd. Shareholders' Equity
Preferred stock, par value $0.001, 5,000,000 shares authorized;
no shares issued and outstanding as of
September 30, 2013 and December 31, 2012		-			-
Common stock, par value $0.001, 250,000,000 shares authorized;
100,113,791 shares issued and outstanding as of
September 30, 2013 and December 31, 2012		100,114			100,114
Additional paid-in capital		27,385,386			27,385,386
Accumulated deficit		(21,097,219	)		(21,345,293	)
Accumulated other comprehensive income		(486,646	)		(767,180	)
Total China Du Kang Co., Ltd. Shareholders' equity		5,901,635			5,373,027
Noncontrolling Interest		4,988,986			4,994,867
Total Shareholders' Equity		10,890,621			10,367,894
Total Liabilities and Shareholders' Equity	$	18,834,795		$	17,608,341

See Notes to Consolidated Financial Statements

3

CHINA DU KANG CO., LTD. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS

	For the Three Months Ended						For the Nine Months Ended
	September 30,						September 30,
	2013			2012			2013			2012
	(unaudited)			(unaudited)			(unaudited)			(unaudited)
Revenues
Sales of Liquor	$	1,215,394		$	1,173,650		$	3,601,121		$	2,510,708
License Fees		14,203			205,219			229,104			629,750
Gross Revenues		1,229,597			1,378,869			3,830,225			3,140,458
Costs of Revenues
Costs of Liquor Sold		856,042			806,300			2,185,630			1,712,148
Costs of License Fees		-			-			-			-
Total Costs of Sales		856,042			806,300			2,185,630			1,712,148
Gross Profit		373,555			572,569			1,644,595			1,428,310
Operating Expenses
Selling Expenses
Sales commission		52,696			55,759			147,755			55,759
Advertising expenses		33,477			-			116,972			4,267
Promotion expenses		118,812			20,035			326,107			41,851
Travel and entertainment		25,890			14,442			71,507			32,235
Total Selling Expenses		230,875			90,236			662,341			134,112
General and Administrative Expenses
Payroll		75,314			76,216			227,539			254,046
Employee benefit and pension		22,210			23,123			42,420			72,503
Depreciation and amortization expenses		32,216			29,969			94,557			92,111
Professional fees and consultancy fees		17,339			9,984			77,086			107,385
Office expenses		34,386			30,153			75,351			134,845
Vehicle expenses		5,180			10,374			21,753			29,383
Bad debt expenses		-			-			25,191			-
Travel and entertainment		12,460			29,901			38,554			93,368
Other general and administrative expenses		161			21,472			2,368			30,636
Total General and Administrative Expenses		199,266			231,192			604,819			814,277
Total Operating Expenses		430,141			321,428			1,267,160			948,389
Income (Loss) from Operations		(56,586	)		251,141			377,435			479,921
Other Income (Expenses)
Interest income		378			853			1,056			3,664
Interest Expenses-capital lease		(10,324	)		(8,033	)		(30,714	)		(24,116	)
Governmental subsidy		-			-			-			260,766
Other income (expense)		(437	)		9,474			(105,140	)		9,668
Total Other Income (Loss)		(10,383	)		2,294			(134,798	)		249,982
Income (Loss) before Provision for Income Tax		(66,969	)		253,435			242,637			729,903
Provision for Income Tax (Note 16)		2,657			(12,415	)		(285	)		(44,235	)
Net Income (Loss)		(64,312	)		241,020			242,352			685,668
Less: Net loss (income) attributable to noncontrolling interest		(21,267	)		(7,144	)		(5,722	)		25,241
Net Income attributable to China Du Kang Co., Ltd.	$	(43,045	)	$	248,164		$	248,074		$	660,427
Basic and Fully Diluted Loss per Share	$	(0.000	)	$	0.002		$	0.002		$	0.007
Weighted average shares outstanding		100,113,791			100,113,791			100,113,791			100,113,791

See Notes to Consolidated Financial Statements

4

CHINA DU KANG CO., LTD. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS

	For the Three Months Ended						For the Nine Months Ended
	September 30,						September 30,
	2013			2012			2013		2012
	(unaudited)			(unaudited)			(unaudited)		(unaudited)
Net Income	$	(64,312	)	$	241,020		$	242,352	$	685,668
Other comprehensive income (loss), net of tax:
Effects of foreign currency conversion		38,877			(22,811	)		280,375		45,305
Total other comprehensive income (loss), net of tax		38,877			(22,811	)		280,375		45,305
Comprehensive income		(25,435	)		218,209			522,727		730,973
Comprehensive income (loss) attributable to
the noncontrolling interest		21,505			7,201			5,881		(25,214	)
Comprehensive income attributable to
China Du Kang Co., Ltd.	$	(3,930	)	$	225,410		$	528,608	$	705,759

See Notes to Consolidated Financial Statements

5

CHINA DU KANG CO., LTD. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

	For the Nine Months Ended
	September 30,
	2013			2012
	(unaudited)			(unaudited)
Cash Flows from Operating Activities
Net income including noncontrolling interest	$	242,352		$	685,668
Adjustments to reconcile net income
including noncontrolling interest to net cash
provided by (used in)erating activities:
Depreciation		288,195			353,491
Amortization		32,000			32,333
Bad debt expenses		25,191			-
Obsolete inventory write-down		85,210			60,072
Changes in operating assets and liabilities:
(Increase)/Decrease in notes receivable		(32,147	)
(Increase)/Decrease in accounts receivable		79,312			(428,119	)
(Increase)/Decrease in others receivable		(25,054	)		(92,799	)
(Increase)/Decrease in prepaid expenses		(180,013	)		(1,837,876	)
(Increase)/Decrease in inventories		(1,138,548	)		(1,043,959	)
Increase/(Decrease) in accounts payable		1,081,218			734,607
Increase/(Decrease) in accrued expenses		112,774			138,129
Increase/(Decrease) in other payable		55,693			(15,407	)
Increase/(Decrease) in taxes payable		34,215			126,628
Increase/(Decrease) in deferred revenue		(887,455	)		1,596,706
Increase/(Decrease) in government subsidiary advance		192,879			-
Increase/(Decrease) in capital lease interest payable		(30,714	)		(24,116	)
Net cash provided by operating activities		(64,892	)		285,358
Cash Flows from Investing Activities
Purchase of fixed assets		(140,354	)		(165,297	)
Net cash used by investing activities		(140,354	)		(165,297	)
Cash Flows from Financing Activities
Repayment for a capital lease principal		(54,489	)		(68,731	)
Net cash provided (used) by financing activities		(54,489	)		(68,731	)
Increase (decrease) in cash		(259,735	)		51,330
Effects of exchange rates on cash		(51,618	)		5,720
Cash at beginning of period		681,702			968,370
Cash at end of period	$	370,349		$	1,025,420
Supplemental Disclosures of Cash Flow Information:
Cash paid during the year for:
Interest	$	30,714		$	24,116
Income tax	$	285		$	47,956

See Notes to Consolidated Financial Statements

6

CHINA DU KANG CO., LTD. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 1 – INTERIM FINANCIAL STATEMENTS

The accompanying unaudited consolidated financial statements have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission and should be read in conjunction with the Company’s audited financial statements and footnotes thereto for the year ended December 31, 2012, included in the Company’s Form 10-K filed on April 16, 2013. Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been omitted pursuant to such rules and regulations. However, the Company believes that the disclosures are adequate to make the information presented not misleading. The financial statements reflect all adjustments (consisting primarily of normal recurring adjustments) that are, in the opinion of management necessary for a fair presentation of the Company’s financial position and results of operations. The operating results for the three and nine months ended September 30, 2013 are not necessarily indicative of the results to be expected for any other interim period of a future year.

Note 2 – ORGANIZATION AND BUSINESS BACKGROUND

China Du Kang Co., Ltd (“China Du Kang” or the “Company”) was incorporated as U. S. Power Systems, Inc., in the State of Nevada on January 16, 1987. On or about June 8, 2006 the Company’s name was changed to Premier Organic Farms Group, Inc. On or about November 30, 2006 the name was changed to Amstar Financial Holdings, Inc. (“AFLH”). On or about March 18, 2008 the name was changed to its current name of China Du Kang Co., Ltd. with its corporate charter still residing in Nevada. The Company changed its fiscal year ending from September 30 to December 31 in February 2008.

The Company had been engaged in the business of providing various financial services since it's incorporation  The Company was not successful and discontinued the majority of its operation by December 31, 2007.

On January 10, 2008, the Company entered into a Plan of Exchange Agreement (the “Exchange Agreement”) with Hong Kong Merit Enterprise Limited (“Merit”), a holding company incorporated in Hong Kong. Pursuant to the terms of the Exchange Agreement, the Company agreed to issue post split 88,000,000 shares of its common stock to the shareholders of Merit in exchange for Merit to transfer all of its issued and outstanding shares of common stock to the Company, thereby causing Merit to become a wholly-owned subsidiary of the Company. The parties closed the transaction contemplated by the Agreement on February 11, 2008.

This transaction is being accounted for as a reverse merger, since the shareholders of Merit own a majority of the outstanding shares of the Company’s common stock immediately following the share exchange. Merit is deemed to be the acquirer in the reverse merger. Consequently, the assets and liabilities and the historical operations that are reflected in the consolidated financial statements for periods prior to the share exchange are those of Merit and its subsidiaries and are recorded at the historical cost basis. After completion of the share exchange, the Company‘s consolidated financial statements will include the assets and liabilities of both Du Kang and Merit, the historical operations of Merit and the operations of the Company and its subsidiaries from the closing date of the share exchange.

7

CHINA DU KANG CO., LTD. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 2 – ORGANIZATION AND BUSINESS BACKGROUND (continued)

Merit was incorporated on September 8, 2006 in Hong Kong under the Companies Ordinances as a Limited Liability company. Merit was formed for the purpose of seeking and consummating a merger or acquisition with a business entity organized as a private corporation, partnership, or sole proprietorship.

On January 22, 2008, Merit entered into a Share Purchase Agreement (the “Purchase Agreement”) with the owners of Shaanxi Huitong Food Co., Inc. ("Huitong"), a limited liability company incorporated in the People's Republic of China ("PRC") on August 9, 2007 with a registered capital of $128,200 (RMB1,000,000). Pursuant to the Purchase Agreement, Merit agreed to purchase 100% of the equity ownership in Huitong for a cash consideration of $136,722 (RMB 1,000,000). The local government approved the transaction on February 1, 2008. Subsequent to the completion of the acquisition, Huitong became a wholly-owned subsidiary of Merit.

Huitong was formed for the purpose of seeking and consummating a merger or acquisition with a business entity organized as a private corporation, partnership, or sole proprietorship. On December 26, 2007, Huitong executed an acquisition agreement with shareholders of Shaanxi Xidenghui Technology Stock Co., Ltd. ("Xidenghui"), whereby Huitong agreed to acquire 98.24% of the equity ownership of Xidenghui from the shareholders. Subsequent to completion of the acquisition agreement, Xidenghui became a majority-owned subsidiary of Huitong.

Xidenghui was incorporated in Weinan City, Shaanxi Province, PRC on March 29, 2001 under the Company Law of PRC. Xidenghui was engaged in the business of production and distribution of distilled spirit with a brand name of “Xidenghui”. Currently, its principal business is to hold an equity ownership interest in Shannxi Baishui Dukang Liquor Co., Ltd. (“Baishui Dukang”) and Shaanxi Baishui Dukang Liquor Brand Management Co., Ltd. (“Brand Management”). Beginning from January 2012, Xidenghui also distributes liquor that is manufactured by Baishui Dukang.

Baishui Dukang was incorporated in Baishui County, Shanxi Province, PRC on March 1, 2002 under the Company Law of PRC. Baishui Dukang was principally engaged in the business of production and distribution of distilled spirit (liquor) with a brand name of “Baishui Du Kang”. On May 15, 2002, Xidenghui invested inventory and fixed assets with a total fair value of $ 4,470,219 (RMB 37,000,000) to Baishui Dukang and owns 90.51% of Baishui Dukang’s equity interest ownership, thereby causing Baishui Dukang to become a majority-owned subsidiary of Xidenghui.

On October 30, 2007, Xidenghui executed an agreement with Mr. Zhang Hongjun, a PRC citizen, to establish a joint venture, Shaanxi Baishui Dukang Liquor Brand Management Co., Ltd. ("Brand Management"). Pursuant to the agreement, Xidenghui contributed cash of $95,704 (RMB 700,000), and owns 70% equity interest ownership therein. Brand Management was subsequently incorporated on November 12, 2007. Upon the completion of incorporation, Brand Management became a majority-owned subsidiary of the Xidenghui. Brand Management is principally engaged in the business of distribution of Baishui Dukang’s liquor and managing the franchise of the “Baishui Du Kang” brand name.

8

CHINA DU KANG CO., LTD. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 2 – ORGANIZATION AND BUSINESS BACKGROUND (continued)

Xidenghui, Baishui Dukang, and Brand Management are the three of these affiliated companies that are engaged in business operations. Du Kang, Merit, and Huitong are holding companies, whose business is to hold an equity ownership interest in Xidenghui, Baishui Dukang, and Brand Management. All these affiliated companies are hereafter referred to as the "Company". Currently, the Company is principally engaged in the business of production and distribution of distilled spirit with the brand name of “Baishui Dukang”. The Company also licenses the brand name to other liquor manufactures and liquor stores. The Company's structure is summarized in the following chart.

		China Du Kang Co., Ltd. ("China Du Kang") F/K/A Amstar Financial Holdings, Inc. ("AFLH") Incorporated in the State of Nevada on January 16, 1987
				Acquiring 100% equity interest on 2/11/2008
		Hong Kong Merit Enterprise Limited “Merit" Incorporated in Hong Kong on September 8, 2006
				Acquiring 100% equity interest on 1/22/2008
		Shaanxi Huitong Food Development Co., Inc. “Huitong” Incorporated in Shaanxi Province, PRC on August 9, 2007
				Acquiring 98.24% equity interest on 12/26/2007 The equity interest changed to 83.75% on October 1, 2011
		Shaanxi Xidenghui Technology Stock Co., Ltd. “Xidenghui” Incorporated in Shaanxi Province, PRC on March 29, 2001
Acquiring 90.51% equity interest on 5/15/2002					Acquiring 70% equity interest on 11/12/2007
	Shaanxi Baishui Dukang Liquor Co., Ltd. “Baishui Dukang” Incorporated in Shaanxi Province, PRC on March 1, 2002			Shaanxi Baishui Dukang Liquor Brand Management Co., Ltd. “Brand Management” Incorporated in Shaanxi Province, PRC on November 12, 2007

Under the PRC regulations on acquisition of businesses, commonly referred to as "SAFE" regulations (State Administration of Foreign Exchange), which were jointly adopted on August 8, 2006 by six PRC regulatory agencies with jurisdictional Authority, a Chinese entity may not be owned or controlled directly by foreign investors or shareholders but may be acquired in a two-step transaction with a wholly owned foreign enterprise (“WOFE”).

9

CHINA DU KANG CO., LTD. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 2 – ORGANIZATION AND OPERATIONS (continued)

China Du Kang is the US holding company for Merit, a Hong Kong entity organized under the Companies Ordinance as a limited liability company. Merit was established as a WOFE corporation for the purpose of effecting an acquisition transaction with Huitong, a WOFE corporation incorporated in PRC. Huitong in turn majority owns Xidenghui, which is a Chinese holding company. Xidenghui has two subsidiaries, Baishui Dukang and Brand Management.

This arrangement provides separate holding companies for the United States, Hong Kong, and PRC. This allows the Company to lawfully conduct operations in China while ownership is represented in shares of the U. S. holding company.

Note 3 – CONTROL BY PRINCIPAL OWNERS

The directors, executive officers, their affiliates, and related parties own, directly or indirectly, beneficially and in the aggregate, the majority of the voting power of the outstanding capital of the Company. Accordingly, directors, executive officers and their affiliates, if they voted their shares uniformly, would have the ability to control the approval of most corporate actions, including approving significant expenses, increasing the authorized capital and the dissolution, merger or sale of the Company's assets.

10

CHINA DU KANG CO., LTD. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 4 –SIGNIFICANT ACCOUNTING POLICIES

Basis of Presentation

The accompanying consolidated financial statements are prepared in accordance with generally accepted accounting principles in the United States of America ("US GAAP"). This basis of accounting differs from that used in the statutory accounts of the Company, which are prepared in accordance with the "Accounting Principles of China " ("PRC GAAP"). Certain accounting principles, which are stipulated by US GAAP, are not applicable in the PRC GAAP. The difference between PRC GAAP accounts of the Company and its US GAAP consolidated financial statements is immaterial.

The consolidated financial statements include the accounts of the Company and all its majority-owned subsidiaries which require consolidation. Inter-company transactions have been eliminated in consolidation.

Certain amounts in the prior year's consolidated financial statements and notes have been revised to conform to the current year presentation.

Use of Estimates

The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenue and expenses during the reporting period. Actual results when ultimately realized could differ from those estimates.

Subsequent Events

The Company evaluated subsequent events through the date of issuance of these financial statements. We are not aware of any significant events that occurred subsequent to the balance sheet date but prior to the filing of this report that would have a material impact on our consolidated financial statements.

Concentrations of Credit Risk

Financial instruments that subject the Company to concentrations of credit risk consist primarily of cash and cash equivalents. The Company maintains its cash and cash equivalents with high-quality institutions. Deposits held with banks in PRC may not be insured or exceed the amount of insurance provided on such deposits. Generally these deposits may be redeemed upon demand and therefore bear minimal risk.

Fair Value of Financial Instruments

The carrying value of financial instruments including cash and cash equivalents, receivables, prepaid expenses, accounts payable, and accrued expenses, approximates their fair value due to the relatively short-term nature of these instruments.

11

CHINA DU KANG CO., LTD. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 4 –SIGNIFICANT ACCOUNTING POLICIES (continued)

Foreign Currencies Translation

The Company maintains its books and accounting records in PRC currency "Renminbi" ("RMB"), which is determined as the functional currency. Transactions denominated in currencies other than RMB are translated into RMB at the exchange rates quoted by the People’s Bank of China (“PBOC”) prevailing at the date of the transactions. Monetary assets and liabilities denominated in currencies other than RMB are translated into RMB using the applicable exchange rates quoted by the PBOC at the balance sheet dates. Exchange differences are included in the statements of changes in owners' equity. Gain and losses resulting from foreign currency transactions are included in operations.

The Company’s financial statements are translated into the reporting currency, the United States Dollar (“US$”). Assets and liabilities of the Company are translated at the prevailing exchange rate at each reporting period end. Contributed capital accounts are translated using the historical rate of exchange when capital is injected. Income and expense accounts are translated at the average rate of exchange during the reporting period. Translation adjustments resulting from translation of these consolidated financial statements are reflected as accumulated other comprehensive income (loss) in the consolidated statements of changes in shareholders’ equity.

The exchange rates used for foreign currency translation were as follows (USD$1 = RMB):

Period Covered	Balance Sheet Date Rates		Average Rates
Nine months ended September 30, 2013		6.18820		6.24794
Nine months ended September 30, 2012		6.33400		6.32745
Year ended December 31, 2012		6.31610		6.31984
Year ended December 31, 2011		6.36470		6.47351

Statement of Cash Flows

In accordance with FASB ASC 830-230, “Statement of Cash Flows”, cash flows from the Company’s operations is calculated based upon the functional currency. As a result, amounts related to assets and liabilities reported on the statement of cash flows may not necessarily agree with changes in the corresponding balances on the balance sheet.

12

CHINA DU KANG CO., LTD. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 4 –SIGNIFICANT ACCOUNTING POLICIES (continued)

Revenue Recognition

The Company recognizes revenue when the earnings process is complete, both title and the risks and rewards of ownership are transferred or services have been rendered and accepted, the selling price is fixed or determinable, and collectability is reasonably assured.

(1) Sales of Liquor

The Company generally sells liquor to liquor distributors with which the Company executed an exclusive distributor contract, pursuant to which the distributor cannot act as a distributor for any other products of a third party. The Company recognizes liquor sales revenue when the significant risks and rewards of ownership have been transferred pursuant to PRC law, including such factors as when persuasive evidence of an arrangement exists, delivery has occurred, the sales price is fixed or determinable, sales and value-added tax laws have been complied with, and collectability is reasonably assured. The Company generally recognizes revenue from sales of liquor when its products are shipped.

The Company does not provide an unconditional right of return, price protection or any other concessions to its customers. Sales returns and other allowances have been immaterial in our operation.

(2) License Fees

(a) License fees from liquor manufactures

We authorize liquor manufacturers who comply with our requirements to use certain sub brand names of “Baishui Dukang” to process the production of liquor and to sell to customers within the designated area in a certain period of time. The amount of license fee varies based on the sales territory and the number of sub brand names. We generally collect the entire license fee when the license agreement is executed, and then recognize license fee revenue over the beneficial period described by the agreement, as the revenue is realized or realizable and earned.

(b) License fees from liquor stores

We also authorize liquor stores who comply with our requirements to exclusively sell certain sub brand names of “Baishui Dukang” products within the designated area in a certain period of time. The amount of license fee varies based on the sales territory and the number of sub brand names. We generally collect the entire license fee when the agency agreement is executed, and then recognize license fee revenue over the beneficial period described by the agreement, as the revenue is realized or realizable and earned.

13

CHINA DU KANG CO., LTD. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 4 –SIGNIFICANT ACCOUNTING POLICIES (continued)

Deferred Revenue

Deferred revenue consists of prepayments to the Company for products that have not yet been delivered to the customers and franchise fees received upfront for services have not yet been rendered and accepted. Payments received prior to satisfying the Company’s revenue recognition criteria are recorded as deferred revenue.

Cost of License Fees

Costs of franchise fees principally include the costs to prepare the franchise contracts and the payroll to employees who are responsible for inspection and monitoring the franchisees. These expenses are immaterial and therefore included in the general and administrative expenses.

Cash and Cash Equivalents

Cash and cash equivalents include cash on hand, deposits in banks with maturities of three months or less, and all highly liquid investments that are unrestricted as to withdrawal or use, and which have original maturities of three months or less.

Accounts receivable

The Company carries accounts receivable at the invoiced amount without bearing interest, less an allowance for doubtful accounts. Allowances for doubtful accounts are recorded as a general and administrative expense. Management regularly reviews the composition of accounts receivable and analyzes historical bad debts, customer concentrations, customer credit worthiness, current economic trends and changes in customer payment patterns to evaluate the collectability of accounts receivable and the adequacy of the allowance. Management also performs a subjective review of specific large accounts to determine if an additional reserve is necessary. In circumstances in which we receive payment for accounts receivable that have previously been written off, we reverse the allowance and bad debt expenses.

Others Receivable

Others receivable principally includes advance to employees who are working on projects on behalf of the Company. After the work is finished, they will submit expense reports with supporting documents to the accounting department. Upon being properly approved, the expenses are debited into the relevant accounts and the advances are credited out. Cash flows from these activities are classified as cash flows from operating activities.

14

CHINA DU KANG CO., LTD. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 4 – SIGNIFICANT ACCOUNTING POLICIES (continued)

Inventories

Inventories are stated at the lower of cost or market value. Actual cost is used to value raw materials and supplies. Finished goods and work-in-progress are valued on the weighted-average-cost method. Elements of costs in finished good and work-in-progress include raw materials, direct labor, and manufacturing overhead.

Baishui Dukang, one of our subsidiaries, is engaged in the distillery business. Pursuant to the production requirement, all spirits that are newly distilled from sorghum, so call “liquor base”, must be barrel-aged for several years, so we bottle and sell only a portion of our liquor base inventory each year. We classify barreled liquor base as work-in-progress. Following industry practice, we classify all barreled liquor base as a current asset.

Property, Plant and Equipment

Property, plant and equipment are carried at cost. The cost of repairs and maintenance is expensed as incurred; major replacements and improvements are capitalized.

When assets are retired or disposed of, the cost and accumulated depreciation are removed from the accounts, and any resulting gains or losses are included in income in the year of disposition.

Depreciation is calculated on a straight-line basis over the estimated useful life of the assets without residual value. The percentages or depreciable life applied are:

Building and warehouses	20 years
Machinery and equipment	7-10 years
Office equipment and furniture	3-5 years
Motor vehicles	5 years
Leased assets	Lease duration

Intangible Assets

Intangible assets are carried at cost. Amortization is calculated on a straight-line basis over the estimated useful life of the assets without residual value. The percentages or amortizable life applied are:

Land use right	50 years
Trade Mark	10 years

15

CHINA DU KANG CO., LTD. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 4 –SIGNIFICANT ACCOUNTING POLICIES (continued)

Land Use Right

All land belongs to the State in PRC. Enterprises and individuals can pay the State a fee to obtain a right to use a piece of land for commercial purpose or residential purpose for an initial period of 50 years or 70 years, respectively. The land use right can be sold, purchased, and exchanged in the market. The successor owner of the land use right will reduce the amount of time which has been consumed by the predecessor owner.

The Company owns the right to use three pieces of land, approximately 657 acres, 2.4 acres, and 7.8 acres, located in Weinan City, Shaanxi Province for through February, 2051, March 2055, and May 2059. The costs of these land use rights are amortized over their prospective beneficial period, using the straight-line method with no residual value.

Valuation of Long-Lived assets

Long-lived assets and certain identifiable intangibles are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of an asset to future net cash flows expected to be generated by the asset. 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.

Long-term Investment

On March 1, 2006, Xidenghui executed an investment agreement with Shaanxi Yichuan Nature Park Co., Inc., pursuant to which, Xidenghui agreed to invest cash of $1,596,254 (RMB 12,000,000) to establish a joint-venture named Shaanxi Yellow-river Bay Wenquan Lake Park Co., Ltd., F/K/A Shaanxi Yellow-river Wetlands Park Co., Ltd., and owns 7.9% equity ownership interest therein. Shaanxi Yellow-river Wetlands Park Co., Ltd. is engaged in the business of recreation and entertainment.

Xidenghui finished the investment contribution in September 2007. As the project is currently ongoing, the Management believes the amount invested approximates the fair value and uses the cost method to record the investment.

Advertising Costs

The Company expenses advertising costs as incurred or the first time the advertising takes place, whichever is earlier, in accordance with the FASB ASC 720-35, “Advertising Costs". The advertising costs were $116,972 and $4,267 for the nine months ended September 30, 2013 and 2012, respectively.

16

CHINA DU KANG CO., LTD. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 4 –SIGNIFICANT ACCOUNTING POLICIES (continued)

Research and Development Costs

Research and development costs relating to the development of new products and processes, including significant improvements and refinements to existing products, are expensed when incurred in accordance with the FASB ASC 730, "Research and Development". Research and development costs were immaterial for the nine months ended June 30, 2013 and 2012, respectively.

Value-added Tax ("VAT")

Sales revenue represents the invoiced value of goods, net of a value-added tax (VAT). All of the Company’s products that are sold in PRC are subject to a Chinese value-added tax at a rate of 17% of the gross sales price or at a rate approved by the Chinese local government. This VAT may be offset by VAT paid on purchase of raw materials included in the cost of producing the finished goods. The Company presents VAT on a net basis.

Sales Tax and Sales Tax Affixation

Brand Management derives license fees revenue, which is subject to sales tax and sales tax affixation in PRC. Sales tax rate is 5% of the gross sales, and sales tax affixation is approximately 10% of the sales tax, or 0.05% of the gross sales. The Company presents sales tax and sales tax affixation on a net basis.

Excise Tax

Baishui Dukang produces and distributes distilled liquor, which is subject to excise tax in PRC. Excise tax rate is $0.14 (RMB1.00) per kilogram and 10%-20% of gross sales revenue. The Company presents excise tax on a net basis.

Related Parties

A party is considered to be related to the Company if the party directly or indirectly or through one or more intermediaries, controls, is controlled by, or is under common control with the Company. Related parties also include principal owners of the Company, its management, members of the immediate families of principal owners of the Company and its management and other parties with which the Company may deal if one party controls or can significantly influence the management or operating policies of the other to an extent that one of the transacting parties might be prevented from fully pursuing its own separate interests. A party which can significantly influence the management or operating policies of the transacting parties or if it has an ownership interest in one of the transacting parties and can significantly influence the other to an extent that one or more of the transacting parties might be prevented from fully pursuing its own separate interests is also a related party.

17

CHINA DU KANG CO., LTD. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 4 –SIGNIFICANT ACCOUNTING POLICIES (continued)

Pension and Employee Benefits

Full time employees of the PRC entities participate in a government mandated multi-employer defined contribution plan pursuant to which certain pension benefits, medical care, unemployment insurance, employee housing fund and other welfare benefits are provided to employees. Chinese labor regulations require the Company to accrue for these benefits based on certain percentages of the employees' salaries. The Management believes full time employees who have passed the probation period are entitled to such benefits. The total provisions for such employee benefits were $42,420 and $72,503 for the nine months ended September 30, 2013 and 2012, respectively.

Government Subsidies

The Company records government grants as current liabilities upon reception. A government subsidy revenue is recognized only when there is reasonable assurance that the Company has complied with all conditions attached to the grant. The Company recognized government subsidy of $0 and $260,766 for the nine months ended September 30, 2013 and 2012, respectively.

Statutory Reserves

Pursuant to the applicable laws in PRC, PRC entities are required to make appropriations to three non-distributable reserve funds, the statutory surplus reserve, statutory public welfare fund, and discretionary surplus reserve, based on after-tax net earnings as determined in accordance with the PRC GAAP, after offsetting any prior years’ losses. Appropriation to the statutory surplus reserve should be at least 10% of the after-tax net earnings until the reserve is equal to 50% of the Company's registered capital. Appropriation to the statutory public welfare fund is 5% to 10% of the after-tax net earnings. The statutory public welfare fund is established for the purpose of providing employee facilities and other collective benefits to the employees and is non-distributable other than in liquidation. Beginning from January 1, 2006, enterprise is no longer required to make appropriation to the statutory public welfare fund. The Company does not make appropriations to the discretionary surplus reserve fund.

Since the Company has been accumulating deficiency, no contribution has been made to the statutory surplus reserve fund and statutory public welfare reserve fund to date. The company will be required to make contributions to the statutory surplus reserve fund and statutory public welfare reserve fund upon the achievement of positive retained earnings, which means elimination of accumulated deficit and making further positive net income.

Comprehensive Income

FASB ASC 220, “Comprehensive Income”, establishes standards for reporting and display of comprehensive income, its components and accumulated balances. Comprehensive income as defined includes all changes in equity during a period from non-owner sources. Accumulated comprehensive income, as presented in the accompanying statements of changes in owners' equity consists of changes in unrealized gains and losses on foreign currency translation. This comprehensive income is not included in the computation of income tax expense or benefit.

18

CHINA DU KANG CO., LTD. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 4 –SIGNIFICANT ACCOUNTING POLICIES (continued)

Income Taxes

The Company accounts for income tax in accordance with FASB ASC 740-10-25, which requires the asset and liability approach for financial accounting and reporting for income taxes. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. A valuation allowance related to deferred tax assets is recorded when it is more likely than not that some portion or all of the deferred tax assets will not be realized.

The Company has net operating losses carried forward from prior years. Although the PRC Income Tax Law allows the enterprises to offset their future taxable income with operating losses carried forward in a 5-year period, enterprises need approval from the local tax authority before they can claim such tax benefit, and the outcome of the application is generally uncertain. Therefore, the Management established a 100% valuation allowance for the operation losses carried forward and no deferred tax assets have been recorded as a result of these losses.

Effective January 1, 2007, the Company adopted a new FASB guidance, which clarifies the accounting for uncertainty in income taxes recognized in an enterprise’s financial statements. The new FASB guidance prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. The new FASB guidance also provides guidance on de-recognition of tax benefits, classification on the balance sheet, interest and penalties, accounting in interim periods, disclosure, and transition. In accordance with the new FASB guidance, the Company performed a self-assessment and concluded that there were no significant uncertain tax positions requiring recognition in its consolidated financial statements.

The Company accounts for income taxes in interim periods in accordance with FASB ASC 740-270, "Interim Reporting". The Company has determined an estimated annual effective tax rate. The rate will be revised, if necessary, as of the end of each successive interim period during the Company's fiscal year to its best current estimate. The estimated annual effective tax rate is applied to the year-to-date ordinary income (or loss) at the end of the interim period.

The Company may from time to time be assessed interest or penalties by major tax jurisdictions. In the event it receives an assessment for interest and/or penalties, it will be classified in the financial statements as tax expense.

19

CHINA DU KANG CO., LTD. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 4 –SIGNIFICANT ACCOUNTING POLICIES (continued)

Segment Reporting

FASB ASC 820, “Segments Reporting”, establishes standards for reporting information about operating segments on a basis consistent with the Company’s internal organization structure as well as information about geographical areas, business segments and major customers in financial statements. The Company currently operates in two principal business segments.

Earnings (Loss) Per Share

The Company reports earnings per share in accordance with FASB ASC 260, “Earnings Per Share” , which requires presentation of basic and diluted earnings per share in conjunction with the disclosure of the methodology used in computing such earnings per share. Basic earnings (loss) per share is computed by dividing income (loss) available to common shareholders by the weighted-average number of common shares outstanding during the period. Diluted earnings per share is computed similar to basic earnings per share except that the denominator is increased to include the number of additional common shares that would have been outstanding if the potential common shares had been issued and if the additional common shares were dilutive. There are no potentially dilutive securities outstanding (options and warrants) for the nine months ended September 30, 2013 and 2012, respectively.

Fair Value of Measurements

Accounting principles generally accepted in the United States define fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants at the measurement date. Additionally, the inputs used to measure fair value are prioritized based on a three-level hierarchy. This hierarchy requires entities to maximize the use of observable inputs and minimize the use of unobservable inputs. The three levels of inputs used to measure fair value are as follows:

Level 1:	Unadjusted quoted prices in active markets for identical assets or liabilities.
Level 2:	Input other than quoted market prices that are observable, either directly or indirectly, and reasonably available. Observable inputs reflect the assumptions market participants would use in pricing the asset or liability and are developed based on market data obtained from sources independent of the Company.
Level 3:	Unobservable inputs. Unobservable inputs reflect the assumptions that the Company develops based on available information about what market participants would use in valuing the asset or liability.

An asset or liability’s level within the fair value hierarchy is based on the lowest level of any input that is significant to the fair value measurement. Availability of observable inputs can vary and is affected by a variety of factors. The Company uses judgment in determining fair value of assets and liabilities and Level 3 assets and liabilities involve greater judgment than Level 1 and Level 2 assets or liabilities.

20

CHINA DU KANG CO., LTD. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 4 –SIGNIFICANT ACCOUNTING POLICIES (continued)

Recent Accounting Pronouncements

In July 2013, the FASB issued ASU 2013-11, “Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward, a Similar Tax Loss, or a Tax Credit Carryforward Exists.” This standard requires that an unrecognized tax benefits, or a portion of an unrecognized tax benefit be presented on a reduction to a deferred tax asset for an NOL carryforward, a similar tax loss, or a tax credit carryforward with certain exceptions to this rule. If certain exception conditions exists, an entity should present an unrecognized tax benefit in the financial statements as a liability and should not net the unrecognized tax benefit with a deferred tax asset. This standard is effective for fiscal years and interim periods within those years beginning after December 15, 2013. The Company do not expect the adoption of the new provisions to have a material impact on our financial condition or results of operations.

In March 2013, the FASB issued ASU No. 2013-05, Foreign Currency Matters. This standard provides additional guidance with respect to the reclassification into income of the cumulative translation adjustment (CTA) recorded in accumulated other comprehensive income associated with a foreign entity of a parent company. The ASU differentiates between transactions occurring within a foreign entity and transactions/events affecting an investment in a foreign entity. For transactions within a foreign entity, the full CTA associated with the foreign entity would be reclassified into income only when the sale of a subsidiary or group of net assets within the foreign entity represents the substantially complete liquidation of that foreign entity. For transactions/events affecting an investment in a foreign entity (for example, control or ownership of shares in a foreign entity), the full CTA associated with the foreign entity would be reclassified into income only if the parent no longer has a controlling interest in that foreign entity as a result of the transaction/event. In addition, acquisitions of a foreign entity completed in stages will trigger release of the CTA associated with an equity method investment in that entity at the point a controlling interest in the foreign entity is obtained. This ASU is effective prospectively beginning January 1, 2014, with early adoption permitted. This ASU would impact the Company’s consolidated results of operations and financial condition only in the instance of an event/transaction as described above.

In February 2013, the FASB issued ASU No. 2013-02, Comprehensive Income (Topic 220): Reporting of Amounts Reclassified out of Accumulated Other Comprehensive Income. Under this standard, an entity is required to provide information about the amounts reclassified out of accumulated other comprehensive income (“AOCI”) by component. In addition, an entity is required to present, either on the face of the financial statements or in the notes, significant amounts reclassified out of AOCI by the respective line items of net income, but only if the amount reclassified is required to be reclassified in its entirety in the same reporting period. For amounts that are not required to be reclassified in their entirety to net income, an entity is required to cross-reference to other disclosures that provide additional details about those amounts. ASU 2013-02 does not change the current requirements for reporting net income or other comprehensive income in the financial statements. For the Company, this ASU is effective beginning January 1, 2013, and interim periods within those annual periods. The adoption of this standard is not expected to have an impact on the Company’s financial results or disclosures.

The Company believes that there were no other accounting standards recently issued that had or are expected to have a material impact on our financial position or results of operations.

21

CHINA DU KANG CO., LTD. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 5 – ACCOUNTS RECEIVABLE

Accounts receivable consists of the following:

	September 30,			December 31,
	2013			2012
	(unaudited)
Accounts receivable	$	465,281		$	602,688
Accounts receivable-related party		225,447			154,052
Less: Allowance for doubtful accounts		(240,685	)		(215,494	)
Accounts  receivable, net	$	450,043		$	541,246

Bad debt expense charged to operations was $25,191 and $0 for the nine months ended September 30, 2013 and 2012, respectively.

Refer to Note 14 - Sales of Liquor to Related Party for accounts receivable of related party.

Note 6 –PREPAID EXPENSES

Prepaid expenses consist of the following:

	September 30,		December 31,
	2013		2012
	(unaudited)
Machinery and parts	$	95,946	$	135,222
Raw materials and supplies		26,136		49,477
Packing and supply materials		263,463		74,343
Advance to contraction project		1,011,469		985,157
Taxes		62,563		-
Total	$	1,459,577	$	1,244,199

Note 7 –INVENTORIES

Inventories consist of following:

	September 30,			December 31,
	2013			2012
	(unaudited)
Finished goods	$	3,578,092		$	2,982,436
Work-in-progress		3,689,394			3,001,300
Raw materials and supplies		59,405			65,565
Supplies and packing materials		1,106,005			1,046,624
Less: Allowance for obsolete inventory		(218,650	)		(133,440	)
Total	$	8,214,246		$	6,962,485

Obsolete/Slow moving inventory was $85,210 and $60,072 for the nine months ended September 30, 2013 and 2012, respectively, and these amounts were included in costs of goods sold.

22

CHINA DU KANG CO., LTD. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 8 – PROPERTY, PLANT AND EQUIPMENT

The following is a summary of property, plant and equipment:

	September 30,			December 31,
	2013			2012
	(unaudited)
Building and warehouses	$	3,327,897		$	3,185,704
Machinery and equipment		2,467,194			2,278,147
Office equipment and furniture		219,738			281,718
Motor vehicles		392,970			373,732
Leased assets		2,692,781			2,561,674
Total		9,100,580			8,680,975
Less: Accumulated depreciation		(5,232,319	)		(4,821,423	)
		3,868,261			3,859,552
Add: Construction in progress		408,104			385,744
Total property, plant and equipment, net	$	4,276,365		$	4,245,296

Depreciation expense charged to operations was $288,195 and $353,491 for the nine months ended September 30, 2013 and 2012, respectively. Depreciation expense with respect to production equipment that was charged to cost of sales was $225,638 and $293,173 for the nine months ended September 30, 2013 and 2012, respectively. The remainder, depreciation expense attributable to equipment used in administration, was $62,557 and $59,778 for the nine months ended September 30, 2013 and 2012, respectively, and was included in general and administration expenses.

Note 9 – INTANGIBLE ASSETS

The following is a summary of intangible assets, less amortization:

	September 30,			December 31,
	2013			2012
	(unaudited)
Land use right	$	2,157,651		$	2,101,388
Trade Mark of "Xidenghui"		73,154			71,246
Trade Mark of "Baishui Du Kang"		26,823			26,124
Total intangible assets		2,257,628			2,198,758
Less: Accumulated amortization		(229,268	)		(191,769	)
Total intangible assets, net	$	2,028,360		$	2,006,989

Amortization expense charged to operations was $32,000 and $32,333 for the nine months ended September 30, 2013 and 2012, respectively.

Note 10 – ACCRUED EXPENSES

Accrued expenses consist of the following:

	September 30,		December 31,
	2013		2012
	(unaudited)
Accrued payroll	$	55,326	$	98,532
Accrued employee benefits		61,704		59,422
Accrued pension and employee benefit		144,929		140,892
Accrued office expenses		197,230		37,284
Total	$	459,189	$	336,130

23

CHINA DU KANG CO., LTD. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 11 – TAXES PAYABLE

Taxes payable consists of the following:

	September 30, 2013		December 31, 2012
	(unaudited)
Income tax	$	474,815	$	469,513
Sales tax and sales tax affixation		121,748		142,687
Excise taxes		61,445		42,797
Value-added Tax ("VAT")		35,026		3,715
Other taxes		21,129		3,126
Total taxes payable	$	714,163	$	661,838

Note 12 – DEFERRED REVENUE

Deferred revenue consist of the following:

	September 30,		December 31,
	2013		2012
	(unaudited)
Deferred revenue	$	2,104,372	$	2,498,357
Deferred revenue-related party		1,284,014		1,675,840
Total	$	3,388,386	$	4,174,197

Refer to Note 14 - Sales of Liquor to Related Party for deferred revenues of related party.

Note 13 – SEGMENT REPORTING

The Company operates in two reportable business segments that are determined based upon differences in products and services. Summarized information by business segment is as follows:

	For the Three Months Ended				For the Nine Months Ended
	September 30,				September 30,
	2013		2012		2013		2012
	(unaudited)		(unaudited)		(unaudited)		(unaudited)
REVENUE
Sales of Liquor	$	1,215,394	$	1,173,650	$	3,601,121	$	2,510,708
Franchise Fees		14,203		205,219		229,104		629,750
	$	1,229,597	$	1,378,869	$	3,830,225	$	3,140,458
COST OF SALES
Sales of Liquor	$	856,042	$	806,300	$	2,185,630	$	1,712,148
Franchise Fees		-		-		-		-
	$	856,042	$	806,300	$	2,185,630	$	1,712,148
GROSS PROFITS
Sales of Liquor	$	359,352	$	367,350	$	1,415,491	$	798,560
Franchise Fees		14,203		205,219		229,104		629,750
	$	373,555	$	572,569	$	1,644,595	$	1,428,310

	September 30,		December 31,
	2013		2012
	(unaudited)
TOTAL ASSETS OF LIQUOR PRODUCTION AND DISTRIBUTION	$	14,632,609	$	13,246,775
TOTAL ASSETS OF BRAND NAME FRANCHISE	$	4,202,186	$	4,361,566

24

CHINA DU KANG CO., LTD. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 14 –SALES OF LIQUOR TO RELATED PARTIES

The Company generally sells liquor to liquor distributors. Some of these liquor distributors are our affiliates, which are directly or indirectly, beneficially and in the aggregate, majority-owned and controlled by directors and principal shareholders of the Company.  The price will be different if we sell to third parties. The amount sold to these affiliates are as follows:

			For the Three Months Ended September 30,				For the Nine Months Ended September 30,
	Description		2013		2012		2013		2012
Name of Related Party			(unaudited)		(unaudited)		(unaudited)		(unaudited)
Shaanxi Dukang Group Co., Ltd.	Affiliate 2	$	445,910	$	410,800	$	1,258,381	$	1,237,949
Shaanxi Yellow-river Bay Wenquan Lake Park Co., Ltd.,	Non-consolidated,
F/K/A Shaanxi Yellow-river Wetlands Park Co., Ltd.	7.9% owned subsidiary		2,114		-		2,114		-
Shaanxi Baishui Dukang Marketing Management Co., Ltd.	Affiliate 6		44,175		-		44,175		-
Shaanxi Baishui Dukang Commercial and Trade Co., Ltd.	Affiliate 5		62,859		-		62,859		4,557
Shaanxi Zhongke Spaceflight Agriculture
Development Stock Co., Ltd.	Affiliate 1		11,538		-		11,538		-
Shaanxi Baishui Shiye Co., Ltd.
(F/K/A Shaanxi Baishui Dukang Trade Co., Ltd.)	Affiliate 3		8,605		-		9,038		45,801
Total		$	575,201	$	410,800	$	1,388,105	$	1,288,307

In related to sales to related-parties, our subsidiaries have accounts receivable and deferred revenue from related-parties, as disclosed in the following:

Due from related parties

Due from related parties consists of the following:

		September 30,		December 31,
Name of Related Party	Description	2013		2012
		(unaudited)
Shaanxi Yellow-river Bay Wenquan Lake Park Co., Ltd.,	Non-consolidated,
F/K/A Shaanxi Yellow-river Wetlands Park Co., Ltd.	7.9% owned subsidiary	$	36,227	$	34,113
Shaanxi Baishui Dukang Commercial and Trade Co., Ltd.	Affiliate 5		57,743		-
Shaanxi Zhongke Spaceflight Agriculture
Development Stock Co., Ltd.	Affiliate 1		131,477		119,939
Total		$	225,447	$	154,052

Due to related parties

Due to related parties consists of the following:

		September 30,		December 31,
Name of Related Party	Description	2013		2012
		(unaudited)
Shaanxi Dukang Group Co., Ltd.	Affiliate 2	$	1,093,957	$	1,258,241
Shaanxi Baishui Shiye Co., Ltd.
(F/K/A Shaanxi Baishui Dukang Trade Co., Ltd.)	Affiliate 3		95,770		325,770
Shaanix Mining New Energy Co., Ltd.	Affiliate 4		94,287		91,829
Total		$	1,284,014	$	1,675,840

The nature of the affiliation of each related party is as follows:

Affiliate 1--This company is indirectly, majority owned, and controlled by the Company's sole director's siblings.

Affiliate 2--The CEO of the Company is a director of Shaanxi Dukang Group Co., Ltd. and has significant influence on the operations therein.

Affiliate 3--The CEO of the Company is the sole director of Shaanxi Baishui Shiye Co., Ltd. and has significant influence on the operations therein.

Affiliate 4--The Company's sole director's spouse is a director of Shaanxi Mining New Energy  Co., Ltd., and has significant influence on the operation therein.

Affiliate 5--The CEO of the Company is the sole director of Shaanxi Baishui Dukang Commercial and Trade Co., Ltd. and has significant influence on the operations therein.

25

CHINA DU KANG CO., LTD. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 15 – CONCENTRATIONS AND CREDIT RISKS

The Company operates in the PRC and grants credit to its customers in this geographic region based on an evaluation of the customer's financial condition. Although the PRC is economically stable, it is always possible that unanticipated events in foreign countries could disrupt the Company’s operations.

Major Customers

The following major customers accounted for approximately 5% or more of the Company’s total sales as summarized in the following:

		For the Nine Months Ended September 30,
		2013					2012
		(unaudited)					(unaudited)
Major	Type of			Percentage of					Percentage of
Customers	Customer	Revenue		Total Revenue			Revenue		Total Revenue
*  Shaanxi Dukang Group Co., Ltd.	Distributor	$	1,258,381		32.85	%	$	1,237,949		39.42	%
*  Shaanxi Baishui Dukang Shiye Co., Ltd.	Distributor		-		-			45,801		1.46	%
Customer A	Distributor		-		-			189,366		6.03	%
Customer B	Distributor		1,040,326		27.16	%		418,693		13.33	%
Customer C	Agent		-		-			118,531		3.77	%
Customer D	Agent		-		-			94,854		3.02	%
Total		$	2,298,708		60.01	%	$	2,105,194		67.03	%

Major Suppliers

The following major suppliers accounted for approximately 5% or more of the Company’s total purchase as summarized in the following:

			For the Nine Months Ended September 30,
			2013					2012
			(unaudited)					(unaudited)
	Major	Type of			Percentage of					Percentage of
	Suppliers	Goods	Purchase		Total Purchase			Purchase		Total Purchase
	Supplier A	Packing materials	$	-		-		$	136,933		7.57	%
	Supplier B	Packing materials		98,079		5.23	%		-		-
	Supplier C	Packing materials				-			-		-
	Supplier D	Packing materials		141,431		7.55	%		152,041		8.41	%
	Supplier E	Packing materials		-		-			-		-
	Supplier E	Packing materials		-		-			19,949		1.10	%
*	Shaanxi Dukang Group Co., Ltd.	Packing materials		229,840		12.27	%		-		-
	Supplier F	Packing materials		131,619		7.02	%		168,830		9.34	%
	Supplier G	Raw materials		124,648		6.65	%		-		-
	Supplier H	Raw materials		111,323		5.94	%		-		-
	Supplier I	Raw materials		-		-			123,754		6.85	%
	Supplier J	Raw materials		-		-			163,089		9.02	%
	Total		$	836,941		44.67	%	$	764,596		42.29	%

* Shaanxi Dukang Group Co., Ltd. and Shaanxi Baishui Duking Shiye Co., Ltd are related parties of the Company, see the nature of the affiliation relationship in Note 14.

The Company purchases packing materials from our affiliates, which are directly or indirectly, beneficially and in the aggregate, majority-owned and controlled by directors and principal shareholders of the Company. The price will be different if we purchase from third parties.

26

CHINA DU KANG CO., LTD. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 16 – NONCONTROLLING INTEREST

Balance of Noncontrolling Interest consists of the following:

	Subsidiary and Noncontrolling Interest percentage										Total Noncontrolling
	Brand Management			Baishui Dukang			Xidenghui				Interest
		30.00%			9.49%			16.25%		(4)
Balance @ December 31, 2007	$	40,057		$	85,189		$	-		(1)	$	125,246
Noncontrolling Interest income (Loss)		(42,081	)		(45,176	)		-				(87,258	)
Other Comprehensive Income (Loss)-
effects of Foreign Currency Conversion		2,024			5,003			-				7,028
Balance @ December 31, 2008	$	-		$	45,016		$	-			$	45,016
Noncontrolling Interest income (Loss)		28,071			(60,287	)		(23,661	)	(2)		(55,878	)
Other Comprehensive Income (Loss)-
effects of Foreign Currency Conversion		15			79			(13	)			82
Balance @ December 31, 2009	$	28,086		$	(15,192	)	$	(23,674	)		$	(10,780	)
Noncontrolling Interest income (Loss)		173,253			(44,796	)		(18,047	)			110,410
Other Comprehensive Income (Loss)-
effects of Foreign Currency Conversion		5,332			(1,648	)		(1,263	)			2,421
Balance @ December 31, 2010	$	206,671		$	(61,636	)	$	(42,984	)		$	102,051
Debt Conversion		-			218,865			4,644,728				4,863,593
Noncontrolling Interest income (Loss)		130,183			(29,866	)		27,494				127,810
Other Comprehensive Income (Loss)-
effects of Foreign Currency Conversion		2,225			(509	)		2,809				4,526
Balance @ December 31, 2011	$	339,079		$	126,854		$	4,632,047			$	5,097,980
Reverse of Debt Conversion		-			-			(99,603	)			(99,603	)
Noncontrolling Interest income (Loss)		29,308			(32,815	)		(0	)			(3,507	)
Other Comprehensive Income (Loss)-
effects of Foreign Currency Conversion		17			(20	)		-				(3	)
Balance @ December 31, 2012	$	368,404		$	94,019		$	4,532,444			$	4,994,867
Noncontrolling Interest income (Loss)		(11,349	)		(13,973	)		19,600				(5,722	)
Other Comprehensive Income (Loss)-
effects of Foreign Currency Conversion		656			(1,038	)		223				(159	)
Balance @ September 30, 2013	$	357,711		$	79,008		$	4,552,267			$	4,988,986

27

CHINA DU KANG CO., LTD. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 16 – NONCONTROLLING INTEREST (continued)

Non controlling interest income consists of the following:

	For the Nine Months Ended September 30, 2013
	(unaudited)
Name of Subsidiary	Brand Management						Baishui Dukang						Xidenghui						Parent/Holding Company
	Total Income 100%			Noncontrolling Interest Income 30%			Total Income 100%			Noncontrolling Interest Income 9.49%			Total Income 100%			Noncontrolling Interest Income 16.25%			Total Income		(4)	Noncontrolling Interest Income
Net Income (Loss)	$	(37,830	)	$	(11,349	)	$	(147,242	)	$	(13,973	)	$	427,782		$	69,515		$	(358	)	$	-
Income (Loss) from subsidiary
(equity method)		-			-			-			-			(159,750	)		(25,959	)		291,480			(5,722	)
Total Income (Loss)		(37,830	)		(11,349	)		(147,242	)		(13,973	)		268,032			43,555			291,122			(5,722	)
Adjustments to noncontrolling interest		-			-			-			-			-			(23,955	)		-			-
to absorb prior accumulated deficit
Less: Income (Loss) attributable to
noncontrolling interest		11,349			-			13,973			-			19,600			-			-			-
Income (Loss) attributable to Majority	$	(26,481	)				$	(133,269	)				$	287,632					$	291,122	(3)
Income (Loss) attributable to
noncontrolling interest				$	(11,349	)				$	(13,973	)				$	19,600					$	(5,722	)

	For the Nine Months Ended September 30, 2012
	(unaudited)
Name of Subsidiary	Brand Management					Baishui Dukang						Xidenghui						Parent/Holding Company
	Total Income 100%			Noncontrolling Interest Income 30%		Total Income 100%			Noncontrolling Interest Income 9.49%			Total Income 100%			Noncontrolling Interest Income 16.25%			Total Income		(4)	Noncontrolling Interest Income
Net Income (Loss)	$	132,706		$	39,812	$	(153,545	)	$	(14,571	)	$	707,018		$	116,870		$	(514	)	$	-
Income (Loss) from subsidiary
(equity method)		-			-		-			-			(46,080	)		(7,617	)		660,938			25,240
Total Income (Loss)		132,706			39,812		(153,545	)		(14,571	)		660,938			109,253			660,424			25,240
Adjustments to noncontrolling interest
to absorb prior accumulated deficit		-			-		-			-			-			(109,253	)		-			-
Less: Income (Loss) attributable to
noncontrolling interest		(39,812	)		-		14,571			-			-			-			-			-
Income (Loss) attributable to Majority	$	92,894				$	(138,974	)				$	660,938					$	660,424			(3	)
Income (Loss) attributable to
noncontrolling interest				$	39,812				$	(14,571	)				$	-					$	25,240

28

CHINA DU KANG CO., LTD. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 16 – NONCONTROLLING INTEREST (continued)

Noncontrolling interest income consists of the following:

	For the Year Ended December 31, 2012
Name of Subsidiary	Brand Management					Baishui Dukang						Xidenghui						Parent/Holding Company
	Total Income 100%			Noncontrolling Interest Income 30%		Total Income 100%			Noncontrolling Interest Income 9.49%			Total Income 100%			Noncontrolling Interest Income 16.25%			Total Income		(4)	Noncontrolling Interest Income
Net Income (Loss)	$	97,693		$	29,308	$	(345,788	)	$	(32,815	)	$	1,173,569		$	190,705		$	(814	)	$	-
Income (Loss) from subsidiary
(equity method)		-			-		-			-			(244,587	)		(39,745	)		778,022			(3,507	)
Total Income (Loss)		97,693			29,308		(345,788	)		(32,815	)		928,982			150,960			777,208			(3,507	)
Adjustments to noncontrolling interest
to absorb prior accumulated deficit		-			-		-			-			-			(150,960	)		-			-
Less: Income (Loss) attributable to
noncontrolling interest		(29,308	)		-		32,815			-			(150,960	)		-			-			-
Income (Loss) attributable to Majority	$	68,385				$	(312,972	)				$	778,022					$	777,208			(3	)
Income (Loss) attributable to
noncontrolling interest				$	29,308				$	(32,815	)				$	(0	)				$	(3,507	)

	For the Year Ended December 31, 2011
Name of Subsidiary	Brand Management					Baishui Dukang						Xidenghui					Parent/Holding Company
	Total Income 100%			Noncontrolling Interest Income 30%		Total Income 100%			Noncontrolling Interest Income 9.49%			Total Income 100%			Noncontrolling Interest Income 16.25%		Total Income		(4)	Noncontrolling Interest Income
Net Income (Loss)	$	433,942		$	130,183	$	(314,709	)	$	(29,866	)	$	(814,314	)	$	2,943	$	(917	)	$	-
Income (Loss) from subsidiary
(equity method)		-			-		-			-			18,917			24,550		(822,891	)		127,810
Total Income (Loss)		433,942			130,183		(314,709	)		(29,866	)		(795,397	)		27,494		(823,808	)		127,810
Less: Income (Loss) attributable to
noncontrolling interest		(130,183	)		-		29,866			-			(27,494	)		-		-			-
Income (Loss) attributable to Majority	$	303,760				$	(284,843	)				$	(822,891	)			$	(823,808	)		(3	)
Income (Loss) attributable to
noncontrolling interest				$	130,183				$	(29,866	)				$	27,494				$	127,810

(1)	Prior to January 1, 2009, before we adopted ASC 810 (or FAS 160), if the current period loss attributed to the noncontrolling interest resulted in a deficit noncotrolling interest balance, the majority absorbed the current period loss up to the extent that brought the minority interest back to zero. Any subsequent period income attributed to such noncontrolling interest will first absorb the amount that was absorbed by the majority in the prior period, the balance, if any, will attribute to the noncontrolling interest.
(2)	After we adopted ASC 810 on January 1, ASC 810-10-45-21 requires that the noncontrolling interest continue to be attributed its share of losses even if that attribution results in a deficit noncontrolling interest balance.
(3)	The minor variance between the amount on the table and the amount on the consolidated statements of operations was due to the rounding of foreign currency translation.
(4)	The non-controlling interest percentage increased from 1.76% to 16.25% on October 1, 2011, as some minority shareholders contributed their loans to Shaanxi Xidenghui Technology Stock Co., Ltd. to paid-in capital.

29

CHINA DU KANG CO., LTD. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 17 – COMMITMENTS AND CONTINGENCIES

Contingent Liability from Prior Operation

Prior to the merger with Hong Kong Merit Enterprise Limited on February 11, 2008, the Company had not been active since discontinuing its financial service operations by December 31,2007.  Management believes that there are no valid outstanding liabilities from prior operations. If a creditor were to come forward and claim a liability, the Company has committed to contest such claim to the fullest extent of the law.  No amount has been accrued in the financial statements for this contingent liability.

The Company’s assets are located in PRC and revenues are derived from operations in PRC.

In terms of industry regulations and policies, the economy of PRC has been transitioning from a planned economy to market oriented economy. Although in recent years the Chinese government has implemented measures emphasizing the utilization of market forces for economic reforms, the reduction of state ownership of productive assets and the establishment of sound corporate governance in business enterprises, a substantial portion of productive assets in PRC are still owned by the Chinese government. For example, all lands are state owned and are leased to business entities or individuals through governmental granting of Land Use Rights. The Chinese government also exercises significant control over PRC’s economic growth through the allocation of resources and providing preferential treatment to particular industries or companies. Uncertainties may arise with changing of governmental policies and measures.

The Company faces a number of risks and challenges not typically associated with companies in North America and Western Europe, since its assets exist solely in the PRC, and its revenues are derived from its operations therein. The PRC is a developing country with an early stage market economic system, overshadowed by the state.  Its political and economic systems are very different from the more developed countries and are in a state of change.  The PRC also faces many social, economic and political challenges that may produce major shocks and instabilities and even crises, in both its domestic arena and in its relationships with other countries, including the United States.  Such shocks, instabilities and crises may in turn significantly and negatively affect the Company's performance.

Lease

On March 4, 2002, Baishui Dukang signed a lease agreement with Shaanxi Sanjiu Dukang Liquor Production Co., Ltd ("Sanjiu"), pursuant to which Baishui Dukang agreed to lease the liquor production facility of Sanjiu, including all the fixed assets and the piece of land that the fixed assets attached, for a period of 20 years, which was latterly extended to 30 year. On February 3, 2005, Sanjiu was acquired by Shannxi Baishui Dukang Liquor Development Co., Ltd, an affiliate of the Company. On April 30, 2005, Baishui Dukang signed a complementary lease agreement with Shannxi Baishui Dukang Liquor Development Co., Ltd, pursuant to which Baishui Dukang agreed to continue to lease the liquor production facility for the rest of the original 30-year period. Baishui Dukang also agreed to pay $362,450 (RMB 3,000,000) to the local government to continue the lease and to absorb the pension and unemployment insurance expenses of Sanjiu's original employees. All the pension and unemployment insurance payments were to be made directly to the local China Social Security Administration to satisfy all of the pension and unemployment insurance expenses that were required in connection with the original Sanjiu employees.

Pursuant to the lease agreement, Baishui Dukang is required to absorb the pension and unemployment insurance expenses of Sanjiu's original employees until they all reach their retirement age.  Pursuant to the applicable laws in PRC, male employees retire when they reach 60 years old, while female employees retire when they reach 55 years old. Accordingly, Sanjiu’s original employees will gradually retire until Year 2032.  The pension and unemployment insurance expenses are based on a certain percentage of the employees’ gross payroll. The percentage may be changed as the applicable law is amended.  In practice, the expenses can be based on the local average salary published by the local government.  Over the life of the lease, the Management anticipates the percentage will remain the same while the local average salary will increase 4% annually.  The number of employees that we need to absorb their pension and unemployment insurance expenses will gradually decrease as Sanjiu’s original employees reach their retirement ages.  To the best of our estimation, we anticipate the future payment for pension and unemployment insurance expenses for Sanjiu’s original employees as rental payment follows:

30

CHINA DU KANG CO., LTD. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 17 – COMMITMENTS AND CONTINGENCIES  (continued)

Estimated Pension and Unemployment Insurance Expenses

	Pension Insurance Expense					Unemployment Insurance Expense					Total		Present Value as of December 31, 2012 (the incremental interest rate is 8%)
	Province average salary	Annual increase		No. of	Estimated pension insurance expense	City average salary	Annual increase		No. of	Estimated pension insurance	USD$1.00=RMB¥6.31610 @12/31/2012
Year	(RMB)	rate	Percentage	employees	(RMB)	(RMB)	rate	Percentage	employees	expense	(RMB)	(USD)	(RMB)	(USD)
2013	15,505	4%	20%	282	874,483	12,351	4%	2.50%	282	87,078	961,561	152,240	706,776	130,521
2014	16,125	4%	20%	268	864,312	12,846	4%	2.50%	268	86,065	950,377	150,469	646,811	119,447
2015	16,770	4%	20%	258	865,344	13,359	4%	2.50%	258	86,168	951,512	150,649	599,614	110,731
2016	17,441	4%	20%	244	851,123	13,894	4%	2.50%	244	84,752	935,875	148,173	546,074	100,844
2017	18,139	4%	20%	228	827,124	14,449	4%	2.50%	228	82,362	909,486	143,995	491,367	90,741
2018	18,864	4%	20%	215	811,162	15,027	4%	2.50%	215	80,772	891,935	141,216	446,189	82,398
2019	19,619	4%	20%	199	780,828	15,629	4%	2.50%	199	77,752	858,580	135,935	397,689	73,442
2020	20,404	4%	20%	173	705,963	16,254	4%	2.50%	173	70,297	776,260	122,902	332,925	61,482
2021	21,220	4%	20%	148	628,103	16,904	4%	2.50%	148	62,544	690,647	109,347	274,265	50,649
2022	22,068	4%	20%	135	595,849	17,580	4%	2.50%	135	59,332	655,182	103,732	240,909	44,489
2023	22,951	4%	20%	113	518,698	18,283	4%	2.50%	113	51,650	570,348	90,301	194,181	35,860
2024	23,869	4%	20%	102	486,933	19,015	4%	2.50%	102	48,487	535,420	84,771	168,787	31,170
2025	24,824	4%	20%	77	382,290	19,775	4%	2.50%	77	38,067	420,357	66,553	122,698	22,659
2026	25,817	4%	20%	52	268,497	20,566	4%	2.50%	52	26,736	295,233	46,743	79,792	14,735
2027	26,850	4%	20%	41	220,167	21,389	4%	2.50%	41	21,923	242,091	38,329	60,583	11,188
2028	27,924	4%	20%	25	139,618	22,244	4%	2.50%	25	13,903	153,521	24,306	35,573	6,569
2029	29,041	4%	20%	18	104,546	23,134	4%	2.50%	18	10,410	114,957	18,201	24,664	4,555
2030	30,202	4%	20%	12	72,485	24,059	4%	2.50%	12	7,218	79,703	12,619	15,834	2,924
2031	31,410	4%	20%	6	37,692	25,022	4%	2.50%	6	3,753	41,446	6,562	7,624	1,408
2032	32,667	4%	20%	1	6,533	26,023	4%	2.50%	1	651	7,184	1,137	1,224	226
Total					10,939,256					1,089,290	12,028,546	1,903,233	6,176,988	1,119,124

We consolidate Sanjiu into our consolidated financial statement based on FASB ASC 810-10-25 (FIN 46R). Since Sanjiu had ceased operation when we executed the lease agreement, we will consolidate the leased assets and the lease payment obligation, including the $362,450 (RMB 3,000,000) paid directly to the local government and the payments that were to be made directly to the local China Social Security Administration to satisfy all of the pension and unemployment insurance payments that were required in connection with the original Sanjiu employees in our consolidated financial statements.

31

CHINA DU KANG CO., LTD. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 17 – COMMITMENTS AND CONTINGENCIES (continued)

Lack of Insurance

The Company does not carry any business interruption insurance, products liability insurance or any other insurance policy except for a limited property insurance policy. As a result, the Company may incur uninsured losses, increasing the possibility that the investors would lose their entire investment in the Company.

The Company could be exposed to liabilities or other claims for which the Company would have no insurance protection. The Company does not currently maintain any business interruption insurance, products liability insurance, or any other comprehensive insurance policy except for property insurance policies with limited coverage. As a result, the Company may incur uninsured liabilities and losses as a result of the conduct of its business. There can be no guarantee that the Company will be able to obtain additional insurance coverage in the future, and even if it can obtain additional coverage, the Company may not carry sufficient insurance coverage to satisfy potential claims. If an uninsured loss should occur, any purchasers of the Company’s common stock could lose their entire investment.

Because the Company does not carry products liability insurance, a failure of any of the products marketed by the Company may subject the Company to the risk of product liability claims and litigation arising from injuries allegedly caused by the improper functioning or design of its products. The Company cannot assure that it will have enough funds to defend or pay for liabilities arising out of a products liability claim. To the extent the Company incurs any product liability or other litigation losses, its expenses could materially increase substantially. There can be no assurance that the Company will have sufficient funds to pay for such expenses, which could end its operations and the investors would lose their entire investment.

32

CHINA DU KANG CO., LTD. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 18 – CONDENSED PARENT COMPANY FINANCIAL INFORMATION

Basis of Presentation

The condensed parent company financial statements have been prepared in accordance with Rule 12-04, Schedule I of Regulation S-X, as the restricted net assets of the subsidiaries of China Du Kang Co., Ltd. exceed 25% of the consolidated net assets of China Du Kang Co., Ltd. The ability of the Company’s Chinese operating subsidiaries to pay dividends may be restricted due to the foreign exchange control policies and availability of cash balances of the Chinese operating subsidiaries. Because substantially all of the Company’s operations are conducted in China and a substantial majority of its revenues are generated in China, a majority of the Company’s revenue being earned and currency received are denominated in Renminbi (RMB). RMB is subject to the exchange control regulation in China, and, as a result, the Company may be unable to distribute any dividends outside of China due to PRC exchange control regulations that restrict its ability to convert RMB into US Dollars.

The condensed parent company financial statements have been prepared using the same accounting principles and policies described in the notes to the consolidated financial statements, with the only exception being that the parent company accounts for its subsidiaries using the equity method. Refer to the consolidated financial statements and notes presented above for additional information and disclosures with respect to these financial statements.

CHINA DU KANG CO., LTD.

CONDENSED PARENT COMPANY BALANCE SHEETS

(Dollars in Thousands)

	September 30,			December 31,
	2013			2012
	(unaudited)
ASSETS
Investment in subsidiaries, at equity in net assets		5,901			5,373
Total Assets		5,901		$	5,373
LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities		-			-
Commitments and Contingencies		-			-
Shareholders' Equity:
Preferred stock, par value $0.001, 5,000,000 shares authorized;
no shares issued and outstanding as of
September 30, 2013 and December 31, 2012		-			-
Common stock, par value $0.001, 250,000,000 shares authorized;
100,113,791 shares issued and outstanding as of
September 30, 2013 and December 31, 2012		100			100
Additional paid-in capital		27,385			27,385
Accumulated deficit		(21,097	)		(21,345	)
Accumulated other comprehensive income		(487	)		(767	)
Total Shareholders' equity (deficit)		5,901		$	5,373

33

CHINA DU KANG CO., LTD. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 18 – CONDENSED PARENT COMPANY FINANCIAL INFORMATION (continued)

CHINA DU KANG CO., LTD.

CONDENSED PARENT COMPANY STATEMENT OF OPERATIONS

(Dollars in Thousands)

	For the Nine Months Ended
		September 30,
		2013		2012
		(unaudited)		(unaudited)
Operating Expenses		$	-	$	-
Equity in undistributed income of subsidiaries			242		686
Net Income		$	242	$	686

CHINA DU KANG CO., LTD.

CONDENSED PARENT COMPANY STATEMENT OF CASH FLOWS

(Dollars in Thousands)

	For the Nine Months Ended
		September 30,
			2013			2012
		(unaudited)			(unaudited)
Cash Flows from Operating Activities
Net income		$	242		$	686
Adjustments to reconcile net income (loss)
provided by cash flows from operations
Equity in undistributed income of subsidiaries			(242	)		(686	)
Net cash provided by operating activities			-			-
Increase (decrease) in cash			-			-
Cash at beginning of period			-			-
Cash at end of period		$	-		$	-

34

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

Forward-Looking Statements

The statements contained herein that are not historical facts are forward-looking statements that represent management’s beliefs and assumptions based on currently available information. Forward-looking statements include the information concerning our current and future operations, business strategies, need for financing, competitive position, ability to retain and recruit personnel, and the effects of competition. Forward-looking statements include all statements that are not historical facts and can be identified by the use of forward-looking terminology such as the words “believes,” “intends,” “may,” “should,” “anticipates,” “expects,” “could,” “plans,” or comparable terminology or by discussions of strategy or trends. Although we believe that the expectations reflected in such forward-looking statements are reasonable, we cannot give any assurances that these expectations will prove to be correct. Such statements by their nature involve risks and uncertainties that could significantly affect expected results, and actual future results could differ materially from those described in such forward-looking statements.

The following discussion should be read in conjunction with our financial statements and related notes thereto as included with this report.

GENERAL BUSINESS

The Company and its subsidiaries principally engage in the business of production and distribution of distilled spirits (liquor) with a brand name of “Baishui Du Kang” as well as to manage the license of the “Baishui Du Kang” brand name in China, PRC.

RESULTS OF OPERATIONS

COMPARISON OF THE THREE MONTHS ENDED SEPTEMBER 30, 2013 AND 2012

Revenue

Total revenues for the three months ended September 30, 2013 were $1,229,597 as compared to $1,378,869 for the same period of 2012, representing a decrease of 10.8%. These include sales of liquor, which were $1,215,394 for the three months ended September 30, 2013 and $1,173,650 for the same period of 2012.

Sales of liquor to related parties distributors were $575,201 or approximately 47.3% of total liquor sales for the three months ended September 30, 2013; and $410,800 or 35.0% of total liquor sales for the three months ended September 30, 2012, respectively. The Company increased its sales of liquor to various new related party distributors. The Company’s revenues from sales of liquor for the three months ended September 30, 2013 increased $41,744 or approximately 3.6% as compared to the same period in 2012. The Company has introduced new products to the market along with new product packaging and increased promotion and advertising spending to attract customers.

The license fees revenue for the three months ended September 30, 2013 were $14,203 and $205,219 for the same period of 2012, representing a decrease of 93.1%, as a result of the change in our strategy to reduce granting third parties the use of our brand names.

There are no related parties’ revenues generated from license fees or agent sales.

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Cost of Goods and Gross Margin

The overall gross margin for the three months ended September 30, 2013 was 30.4% as compared to 41.5% for the comparable period of 2012. Gross margin on sales of liquor was 29.6% in the three months ended September 30, 2013, representing a decrease of 1.7% when compared to 31.3% for the comparable period in 2012.

The decrease in gross margin on sales of liquor resulted from a decrease of sales to unrelated third party customers. The sales to related party distributors has significantly affected the overall gross margin on sales of liquor. Historically, the Company had sold its liquor products to related parties’ distributors at deep discount prices.

Operating Expenses

Expenses from operations totaled $430,141 and $321,428 for the three months ended September 30, 2013 and 2012, respectively. Selling expenses were $230,875 for the three months ended September 30, 2013 as compared to $90,236 for the same period in 2012. Selling expenses increased $140,639 or 155.9% as a result of increased promotion and advertising expenses. General and administrative expenses were $199,266 for the three months ended September 30, 2013 compared to $231,192 for the corresponding period in 2012. The $31,926 or approximately 13.8% decrease in general and administrative expenses between periods was primarily the result of decreased travel and entertainment expenses.

The Company increased its spending in advertising and promotion expense to introduce new products to the market along with new product packaging.

For the three months ended September 30, 2013, the Company had higher spending in sales commission, advertising expenses, promotion expenses, payroll expenses, and travel and entertainment expenses when compared to the same period in 2012. The increase in spending was to introduce new products and packaging to the market.

Other Income and Expenses

The Company has incurred total interest expense net of $9,946 and $7,180 for the three months ended September 30, 2013 and 2012, respectively. The increase in interest expense of $2,766 was due to interest expenses on capital leases acquired by the Company.

Income Tax Expense

The Company incurred income tax expense of $2,657 for the three months ended 2013 as compared to income tax benefits of $12,415 for the same period in 2012. The income tax benefit was incurred as a result of net income before income tax of Brand Management, one of our subsidiaries, for the nine months ended September 30, 2013.

COMPARISON OF THE NINE MONTHS ENDED SEPTEMBER 30, 2013 AND 2012

Revenue

Total revenues for the nine months ended September 30, 2013 were $3,830,225 as compared to $3,140,458 for the same period of 2012. These include sales of liquor, which were $3,601,121 for the nine months ended September 30, 2013 and $2,510,708 for the same period of 2012.

Sales of liquor to related parties distributors were $1,388,105 or approximately 38.5% of total liquor sales for the nine months ended September 30, 2013, and $1,288,307 or 51.3% of total liquor sales for the nine months ended September 30, 2012, respectively. Corresponding related parties’ deferred revenues to the sales revenues were $1,284,014 and $1,675,840 at September 30, 2013 and December 31, 2012, respectively. The Company’s revenues from sales of liquor for the nine months ended September 30, 2013 increased $1,090,413 or approximately 43.4% as compared to the same period in 2012. The Company’s change in distribution practice that began in 2012 has increased its customer’s base. The Company expects its revenue to remain comparable over the next periods as customers adapt to the new products introduced by the Company.

The license fees revenue for the nine months ended September 30, 2013 were $229,104 and $629,750 for the same period of 2012, representing a decrease of $400,646 or approximately 63.6%, as a result of the change in our strategy to reduce granting third parties the use of our brand name.

There are no related parties’ revenues generated from license fees or agent sales.

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Cost of Goods and Gross Margin

The overall gross margin for the six month ended September 30, 2013 was 37.0% as compared to 25.4% for the comparable period of 2012. Gross margin on sales of liquor was 39.3% in the nine months ended September 30, 2013, representing an increase of 7.5% when compared to 31.8% for the comparable period in 2012.

The increase in gross margin on sales of liquor resulted from increase of sales to unrelated third party customers. Historically, the Company primarily sold its liquor products to related parties’ distributors at deep discount prices. When the Company sells its products directly to third party customers the gross margin increased.

Operating Expenses

Expenses from operations totaled $1,267,160 and $948,389 for the nine months ended September 30, 2013 and 2012, respectively. Selling expenses increased $528,229 from $134,112 for the nine months ended September 30, 2012 to $662,341 for the same period in 2013, resulted from significant increase of promotion and advertising expense to market our new products and packaging. General and administrative expenses were $604,819 for the nine months ended September 30, 2013 compared to $814,277 for the corresponding period in 2012. The 25.7% decrease in general and administrative expenses between periods was primarily the result of lower professional and consultancy fees, office expenses and travel and entertainment.

The changes in selling expenses and general and administrative expenses arose from the Company's decision to introduce new products to the market with new packaging for the long-standing products.

Other Income and Expenses

The Company has incurred total interest expense and imputed interest expense net of $29,658 and $20,452 for the nine months ended September 30, 2013 and 2012, respectively. The increase in interest expense was due to capital lease obtained by the Company. The Company received a governmental subsidy of $260,766 in the nine months ended September 30, 2012.

LIQUIDITY AND CAPITAL RESOURCES

Operating Activities

Net cash used in operating activities was $64,892 for the nine months ended September 30, 2013 compared to net cash provided by operating activities of $285,358 for the corresponding period in 2012.

The Company experienced a net income of $242,352 for the nine months ended September 30, 2013 as compared to net income of $685,668 for the same period of 2012. Adjustments to reconcile the net loss to cash provided by operating activities included depreciation and amortization of $320,195 for the nine months ended September 30, 2013 as compared to $385,824 for the corresponding period in 2012. The Company also had to reserve bad debts of $25,191 and obsolete inventory of $85,210 for the nine months ended 2013.

Changes in operating assets and liabilities included decrease in accounts receivable of $79,312, increase in prepaid expenses of $180,013, and increase in inventory of $1,138,548, respectively. At the same time, our accounts payable and accrued expenses increased $1,081,218 and $112,774, respectively. Our deferred revenue decreased from $4,174,197 at December 31, 2012 to $3,388,386 on September 30, 2013. Changes in other liabilities, such as others payable and taxes payable were minimal. The Company made purchases for new packing materials for its products and increased costs of its new product inventory.

Investing Activities

Net cash used in investing activities was $140,354 for the nine months ended September 30, 2013 compared to net cash used in investing activities of $165,297 for the corresponding period in 2012. The increase was primarily attributed to acquisition of new machinery and equipment.

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Financing Activities

Net cash used in financing activities were $54,489 and $68,731 for the nine months ended September 30, 2013 and 2012 respectively. Net cash used in financing activities resulted from payment of capital lease principal.

Cash at September 30, 2013 and December 31, 2012 was $370,349 and $681,702, respectively. The Company had working capital of $3,346,892 at September 30, 2013 as compared to $2,985,718 at December 31, 2012.

We have historically funded our cash needs through a series of debt transactions, primarily with related parties. On October 1, 2011, the related parties converted their outstanding debt to paid-in capital.

The related parties include affiliates and individuals. Affiliates are companies which are directly or indirectly, beneficially and in the aggregate, majority-owned and controlled by directors, officers, and principal shareholders of the Company. Individuals include our officers, shareholders, and prior directors of subsidiaries.

Our liquidity is dependent upon the continuation of and expansion of our operations, receipt of revenues and additional infusions of capital provided by equity and debt financing. Management believes that the current program of sales through distributorship agreements will improve throughout 2013 and that margins overall will continue to improve as well. Demand for our products is dependent on market acceptance of our liquor and conditions in the liquor and general beverage markets, and general economic conditions. All of our products are currently sold in the People’s Republic of China and are heavily dependent on the economy, exchange rates, and consumption habits within the People’s Republic of China. Many of these factors are cyclical and beyond the control of management.

Access to short and long term sources of cash is important to the continuation of our research and development and our operations. Our ability to operate is limited by our financial capacity to obtain cash and additional lines of credit in the future.

Related Parties Transactions

The Company has generated sales revenues from related parties in the amount of $1,388,105 and $1,288,307 for the nine months ended September 30, 2013 and 2012, respectively.

The Company has outstanding accounts receivables from related parties in the amount of $225,447 and $154,052 at September 30, 2013 and December 31, 2012, respectively.

The Company has outstanding deferred revenues related to related parties in the amount of $1,284,014 and $1,675,840 at September 30, 2013 and December 31, 2012, respectively.

Critical Accounting Policies

Information regarding significant accounting standards is included in Note 4 to the accompanying Consolidated Financial Statements.

Off-Balance Sheet Arrangements

As of September 30, 2013, the Company did not have any other off-balance sheet arrangements that have, or are reasonably likely to have, a current or future material effect on our financial condition, results of operations, liquidity, capital expenditures or capital resources.

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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Not required for Smaller Reporting Companies. 

ITEM 4. CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures

We maintain disclosure controls and procedures, which are designed to ensure that information required to be disclosed in the reports we file or submit under the Securities Exchange Act of 1934, as amended, is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms, and that such information is accumulated and communicated to our management, including our Chief Executive Officer, or CEO, and Chief Financial Officer, or CFO, as appropriate to allow timely decisions regarding required disclosure.

Based on an evaluation carried out as of the end of the period covered by this quarterly report, under the supervision and with the participation of our management, including our CEO and CFO, our CEO and CFO have concluded that, as of the end of such period, our disclosure controls and procedures (as defined in Rule 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934) were effective as of September 30, 2013.

Changes in Internal Control Over Financial Reporting

Based on the evaluation of our management as required by paragraph (d) of Rule 13a-15 or 15d-15 of the Exchange Act, there were no changes in our internal control over financial reporting during the fiscal quarter to which this report relates that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. 

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PART II

ITEM 6. EXHIBITS

31.1.	Rule 13a-14(a)/15d-14(a) Certifications of Chief Executive Officer
31.2.	Rule 13a-14(a)/15d-14(a) Certifications of Chief Financial Officer
32.1.	Section 1350 Certifications of Chief Executive Officer
32.2.	Section 1350 Certifications of Chief Financial Officer

101.INS **	XBRL Instance Document
101.SCH **	XBRL Taxonomy Extension Schema Document
101.CAL **	XBRL Taxonomy Extension Calculation Linkbase Document
101.DEF **	XBRL Taxonomy Extension Definition Linkbase Document
101.LAB **	XBRL Taxonomy Extension Label Linkbase Document
101.PRE **	XBRL Taxonomy Extension Presentation Linkbase Document

__________________

** XBRL (Extensible Business Reporting Language) information is furnished and not filed or a part of a registration statement or prospectus for purposes of Sections 11 or 12 of the Securities Act of 1933, as amended, is deemed not filed for purposes of Section 18 of the Securities Exchange Act of 1934, as amended, and otherwise is not subject to liability under these sections.

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SIGNATURES

In accordance with Section 13 or 15(d) of the Securities Exchange Act of 1934, the Company has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

	CHINA DU KANG CO., LTD.
	(Registrant)
Date: November 19, 2013	By:	/s/ Wang Yong Sheng
		Wang Yong Sheng,
		President and Chief Executive Officer
		(Principal Executive Officer)

Date: November 19, 2013	By:	/s/ Liu Su Ying
		Liu Su Ying,
		Chief Financial Officer
		(Principal Accounting Officer)

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