Item 2 - Management's Discussion and Analysis of Financial Condition and Results of Operations

This discussion and analysis may include statements regarding our expectations with respect to our future performance, liquidity, and capital resources. Such statements, along with any other non-historical statements in the discussion, are forward-looking. These forward-looking statements are subject to numerous risks and uncertainties, including, but not limited to, the risks and uncertainties described below in Part II, Item 1A and in our June 30, 2011 Annual Report on Form 10-K, as well as those factors listed in other documents we file with the Securities and Exchange Commission (SEC). We do not assume an obligation to update any forward-looking statement. Our actual results may differ materially from those contained in or implied by any of the forward-looking statements in this Form 10-Q.

Overview and Financial Condition

Discussions with respect to our Company's operations included herein refer to our operating subsidiary, Sugarmade-CA. Our Company purchased Sugarmade-CA on May 9, 2011. We have no operations other than those of Sugarmade-CA.
Information with respect to our Company's nominal operations prior to the Sugarmade Acquisition is not included herein.

Results of Operations

Revenues

Our Company had revenues totaling $84,498 and $123,996 for the three and nine months ended March 31, 2012, respectively, compared to $1,538 and $26,531, respectively for the three and nine months ended March 31, 2011. Our third quarter fiscal 2012 increase in revenues reflected increased revenue from existing customers as well as several new customers. While we are experiencing revenue and customer growth, this is a relatively new product offering with significantly different characteristics compared with existing paper products on the market, and there can be no assurance about whether or when our products will generate sufficient sales volumes with adequate margins in order for our Company to be profitable.

Cost of goods sold

Our Company recorded cost of goods sold for the three months ended March 31, 2012 of $69,207 compared to negligible cost of sales for the three months ended March 31, 2011 (and an inventory obsolescence charge in 2011 of $15,195). For the nine months ended March 31, 2012, we recorded costs of goods sold of $82,589 compared to $26,449 for the nine months ended March 31, 2011 (excluding a provision for inventory obsolescence of $32,634). For the first fiscal quarter of 2012, we sold our remaining previously written off inventory as a one-time sale to a retailer specializing in the liquidation of excess inventory. As a result, our company did not record cost of sales for first fiscal quarter of 2012, resulting in lower than normal cost of sales for the nine months ended March 31, 2012.

Gross margin

Gross margin was $15,291 or 18% of sales for the three months ended March 31, 2012 compared to negative margins ($15,001) for the corresponding period in fiscal 2011 (consisting entirely of a $15,195 provision for inventory obsolescence ). For the nine months ended March 31, 2012, gross margins totaled $41,407 compared to negative margins of ($32,552) for the first nine months of fiscal 2011. The negative margin for the nine months ended March 31, 2011 consisted entirely of a provision for inventory obsolescence totaling $32,634.
We do not believe that our gross margin percentage realized to date is indicative of anticipated future results due to relatively low product sales volumes experienced to date and the fact that a portion of our revenues in the early part of fiscal 2012 came from previously written off inventory.

Selling, general and administrative expenses

For the three and nine months ended March 31, 2012, selling, general and administrative expenses totaled $634,962 and $3.246,786 respectively, compared to $238,311 and $435,351 for the three and nine months ended March 31, 2011.
The third fiscal quarter and year-to-date ending March 31, 2012 included non-cash related charges for stock compensation and consulting expenses of $115,426 and $1,775,127, respectively (no such expenses were incurred during the same periods in the prior fiscal year). Payroll and related expenses including noncash items totaled $328,976 and $908,677 during the three and nine months ended March 31, 2012, respectively, compared to $62,500 and $133,750 for the three and nine months ended March 31, 2011, respectively. Consulting expenses including noncash items totaling $119,135 and $1,879,680 during the three and nine months ended March 31, 2012, respectively, compared to $119,400 and $208,187 for the three and nine months ended March 31, 2011, respectively.

Legal and auditing expenses totaled $23,263 and $97,858 during the three and nine months ended March 31, 2012, respectively, while legal and auditing expenses for the three and nine months ended March 31, 2011 totaled $36,027 and $54,440, respectively. Travel expenses were $36,978 and $112,523 during the three and nine months ended March 31, 2012, respectively. For the three and nine months ended March 31, 2011, travel expenses totaled $12,108 and $17,254 respectively. The substantial increase in all of our expenses for the quarter and year-to-date periods ended March 31, 2012 as compared to corresponding periods in the prior fiscal year resulted primarily from our Company's non-cash charges for compensation and consulting, added infrastructure and the resulting increase of sales related activities.

Amortization of license and supply agreement

We recognized amortization of our license and supply agreement with Sugar Cane Paper Company ("SCPC") totaling $4,601 and $13,802 during both the three and nine months ended March 31, 2012 and 2011, respectively. The amortization represented the recognition of the cost of the SCPC agreement over its initial twenty year term on a straight line basis.

Interest expense and interest income

Our Company incurred minimal interest expense during the three and nine months ended March 31, 2012 as compared to $27,045 and $82,290, respectively, for the three and nine months ended March 31, 2011. Interest expense in fiscal 2011 was primarily the result of amounts accrued and paid in cash under notes payable outstanding through April 2011. All notes payable outstanding during fiscal 2011 were either converted or paid off from the proceeds of an equity offering in fiscal 2011. Our Company had no interest income in the third quarter of fiscal 2012 and $1,222 during the nine months ended March 31, 2012. Interest income for the three and nine months ended March 31, 2011 totaled $6,349 and $17,775, respectively. Interest income in the third fiscal quarter and year-to-date period ending March 31, 2011 was derived almost exclusively from a note receivable due from a stockholder and former officer of our Company.

Net loss

Our net loss totaled $625,418 and $3,219,105, respectively, for the three and nine months ended March 31, 2012 compared to $278,609 and $546,220 for the corresponding periods in the prior year. As mentioned previously, noncash amounts included in our net loss for the three and nine months ended March 31, 2012 of $115,426 and $1,775,127, respectively, accounted for the majority of the our net loss. The remainder of our net loss was generated as our Company primarily focused its activities on establishing relationships with our supplier and potential customers, recruiting an executive management team and sales staff and instituting systems to control and grow our future operations.

Liquidity and Capital Resources

We have primarily financed our operations to date through the sale of unregistered equity, warrants and (prior to our acquisition of Sugarmade-CA) convertible notes payable. As of March 31, 2012, our Company had cash totaling $478,056, current assets totaling $911,505 and total assets of $1,265,104 (including $323,584 in net intangible assets related to the license and supply agreement with SCPC). Included in other assets was $246,500 of funds expended for prepaid inventory. We expect such funds to be returned to us from our operating credit facility with SCPC in the fourth quarter of fiscal 2012. We had total liabilities of $235,366 (all current) and working capital of $579,580.
Stockholders' equity totaled $933,179 at March 31, 2012.

Net cash used by operating activities was $1,760,825 for the nine months ended March 31, 2012, an increase of $1,411,100 from the $349,725 used during the nine months ended March 31, 2011. The increase of net cash used by operating activities was related to increased activities incurred in ramping up our business operations over the previous year.

There were $27,143 of net cash flows used for investing activities during the nine months ended March 31, 2012 related to our purchase of computer and testing equipment. The inflows for investment activities of $6,001 during the nine months ended March 31, 2011 related to additional advances to a shareholder and former officer under a note receivable totaling $169,000 (the balance of which along with related accrued interest was written off in April 2011).

For the nine months March 31, 2012, there were cash flows from financing activities totaling $659,260. These arose primarily due to proceeds from the sale of common stock and warrants to three investors for $609,260, as well as draws on our operating line of credit totaling $50,000. Inflows from financing activities for the nine months ended March 31, 2011 related to short term shareholder loans as well as additional convertible notes issued during this period.

As part of our license and supply agreement with SCPC, we have an operating credit facility whereby we estimate that we will be able to finance the purchase of substantially all of our Company's products for resale during fiscal 2012 from them on an interest-free basis. Qualifying orders placed with SCPC are not required to be paid for by our Company until up to thirty days after we receive payment from our customers. This operating credit facility is intended to allow us to grow our business quickly without the capital constraints posed by the need for financing our accounts receivables and inventory requirements.
Material terms of our operating credit facility under our license and supply agreement with SCPC include: 1) a term expiring on December 31, 2030; 2) an initial ceiling to borrowings under the agreement of $2 million which may be increased by SCPC to a maximum of $20 million based upon the demonstration of our sales and operating performance and need; and 3) terms allowing payment to SCPC for product within 30 days of our Company's receipt of payment from its customer.

Our capital requirements going forward are expected to consist of financing our operations until we are able to reach a level of revenues and gross margins adequate to equal or exceed our ongoing operating expenses. Our Company currently has a line of credit with a bank for $150,000 in order to allow us access to short term operating capital. Other than the operating credit facility with SCPC and the bank line of credit, we do not have any credit arrangements or sources of liquidity immediately available to us.

As of the date of this report, we had a cash balance of approximately $270,000, not including $246,500 advanced as a refundable deposit for inventory that is expected to soon be reimbursed from our credit line with SCPC. We do not currently estimate that these funds are adequate to meet our ongoing cash requirements for the next twelve months. Our management is currently planning to raise additional equity prior to our fiscal year end on June 30, 2012. However, there are no arrangements in place for any such financing at this time. We cannot provide any assurances as to whether we will be able to secure any necessary equity or debt financing, or the terms of any such financing transaction if one were to occur. Should we be unable to secure any financing, the results could potentially threaten our plans for future growth or in more severe scenarios, threaten the continued operations of our Company.

Capital Expenditures

Our current plans do not call for our Company to expend significant amounts for capital expenditures for the foreseeable future beyond relatively insignificant expenditures for office furniture and information technology related equipment as we add employees to our Company. Third parties in China produce the products that we market and our U.S. based warehousing facilities are contracted for with third parties (and therefore do not require us to make capital purchases in this area).

Critical Accounting Policies Involving Management Estimates and Assumptions

Please see the notes to our financial statements.