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

The following is management's discussion and analysis of certain significant factors which have affected our financial position and operating results during the periods included in the accompanying consolidated financial statements, as well as information relating to the plans of our current management. This report includes forward-looking statements. Generally, the words "believe," "anticipate," "may," "will," "should," "expect," "intend," "estimate," "continue," and similar expressions or the negative thereof or comparable terminology are intended to identify forward-looking statements. Such statements are subject to certain risks and uncertainties, including the matters set forth in this report or other reports or documents we file with the SEC from time to time, which could cause actual results or outcomes to differ materially from those projected. Undue reliance should not be place on these forward-looking statements which speak only as of the date hereof. We undertake no obligation to update these forward-looking statements, except to the extent required by law.

The following discussion and analysis should be read in conjunction with our consolidated financial statements and the related notes thereto and other financial information contained elsewhere in this Quarterly Report on Form 10-Q.

Overview

We are a leading access-network solution provider serving the Chinese market. Since 1997, we have operated in the Chinese market and in 2006, we expanded our marketing efforts to include Vietnam, Indonesia, Malaysia, Thailand and India. In 2007, BTCTC was established as one of our subsidiaries focusing on developing and managing our overseas businesses. Currently, our marketing efforts have expanded to 29 countries around the world, including the U.S., Vietnam, Mexico, Brazil, Russia, India, the Philippines, Thailand, Ireland, Ecuador, Mongolia, South Africa, Turkey, Indonesia, Colombia, Costa Rica, Argentina, Ukraine, Kazakhstan, Singapore, South Korea, Hong Kong (SAR), Saudi Arabia, New Zealand, Bangladesh, the UAE, Canada and Iceland. Continued expansion outside of China is one of our core strategies. We believe that the quality of our products and services will allow Telestone to be increasingly competitive internationally.

Our access-network solutions include the research and development ("R&D") and application of access-network technology. In addition to our homegrown access-network equipment, which includes repeaters, antennas and radio-frequency peripherals, we also offer project design, project management, installation, maintenance and other after-sales services to our customers. Our access-network solutions are designed to further enhance the coverage of mobile telecommunications networks, which in turn improves the quality of reception for mobile phone users. The solutions we provide to the telecommunications industry can be used in indoor and outdoor environments, including hotels, residential estates, office buildings, airports, exhibition centers, underground stations, highways and tunnels.

In 2008, we launched WFDS™ (as defined below), a next generation wireless distribution system. WFDS™ is an all-optical network that combines the technologies of both wireless and optical telecommunications. This system supports all mobile telecom networks and various other networks, including WLAN, FTTH, traditional telephone, and video surveillance systems. In 2010, we began generating revenues from WFDS™ installations, and, as of March 31, 2012, we have completed 226 WFDS™ installations.

In addition, our WFDS™ technology provides several important benefits to Telestone and its investors: WFDS™ offers an opportunity for us to diversify our customer base; and WFDS™ generates 41.25% of the gross margin of the company; WFDS™ also targets a different customer base - property developers and managers
- rather than large telecom carriers, and these customers tend to make payments more quickly, which should reduce our accounts-receivable days' sales outstanding ("DSOs") over time, as WFDS™ grows as a percentage of our revenues. Finally, WFDS™ is a technology platform, and we have a pipeline of WFDS™ technologies slated for launch over the next several years.

While we expanded our sales from purely consisting of a RF-based wireless product portfolio to one including sales from our Unified Local-Access Solution ("WFDS™") products, our traditional RF-based products still remain a strong growth driver for Telestone and we received more than 89.72% of our revenues from RF-based products in the first quarter of 2012.

We are committed to the research and development of wireless communication related technology. Over 90% of our technology is developed in-house at our research and development center. We employ an experienced and highly trained professional staff of scientists and engineers that concentrate on the invention and further advance of wireless communication technology. We have over 100 R&D specialists, many of whom are industry experts in telecommunications - all have at least a bachelor's degree, and 40% have a master's degree or above. As a result of our commitment to R&D, since its introduction, our innovative WFDS™ technology has received recognition in the telecommunications industry and has won awards and praise from several telecommunications carriers.

Also, in order to provide a speedy response and a high level of service to our customers, we have established more than 30 locations throughout China. These locations offer sales, project survey, design, project management and installation and maintenance services. We believe that this sales and service strategy enhances our ability to increase our existing customer base in the PRC and enables us to provide timely responses to customers' inquires as well as technical and maintenance service upon our customers' requests. Our sales efforts are not focused in nor dependent upon any particular region or province of the PRC.

As the mobile market in China continues to mature, mobile operators have begun to invest in the future. In particular, the Chinese telecommunications industry has witnessed accelerated development in recent years with a rapid rollout of 3G network investments as well as commitments to introduce 4G technology since 2011. Such is also evidenced by China Mobile, China Telecom, and China Unicom's €1.178 billion ($1.625 billion) purchase of network and application solutions, and integration and maintenance services from Alcatel-Lucent on November 5, 2010 during the visit of Chinese President Hu Jintao to France.

We also believe that disparate technologies used by mobile carriers in the United States, and the continued roll-out of 3G and 4G also provide a conducive environment for creating potential demand for our WFDS™ enabled equipment and solutions in the United States.

The Rapid Growth of Wireless Subscribers in China

China has repeatedly expressed a commitment to continuing economic growth, aimed at improving the living standards of its population and at expanding its middle class. This growth has led to increasing urbanization amongst the Chinese population with migrant workers moving to cities. There is now a growing demand among both enterprises and households in China for improved wireless bandwidth and network performance. Although China is the largest wireless market in the world, there is still opportunity to expand as the mobile user penetration rate in China is currently relatively low. The number of wireless subscribers in China across both 2G and 3G platforms surpassed 900 million as of the end of August 2011.

Wireless Infrastructure Growth Drivers in China

During the 2G era, the majority of mobile traffic was comprised of voice, and hence network coverage mainly focused on breadth rather than on depth. However, as we entered into the 3G era in China, approximately 70% of the 3G traffic was comprised of data. As a result, in-depth network coverage has become the 3G operators' first priority and we believe that the demand for wireless enhancement equipment has become much more important than in the past. We believe that the room for growth in such demand is evident as the population coverage levels of existing 3G networks are still below 70% in most cities currently offering 3G, and less than half of China's 650 major cities support 3G.

Telecom Carriers' layout for Next-generation Communications Market

The industry trend amongst international mainstream telecom carriers is to accelerate the shift towards the construction of next-generation communications networks, such as LTE. At the 2012 World Mobile Communications Conference, held in Barcelona, China Mobile and its partners jointly published plans to construct more than 500,000 TD-LTE base stations over the next three years that will service a population of up to 2 billion people. In China, nine cities, including Shenzhen and Hangzhou, and the construction of over 20,000 base stations will be involved in commercial testing of China Mobile's plan. In Hong Kong, China Mobile will begin to provide LTE-TD/FDD services. China Unicom's LTE Trial Network construction plans also conform to this trend. These investments are expected to create new opportunities in our industry.

To speed up China's Wireless City, Smart City Construction

In recent years Chinese large and medium-sized cities have actively constructed "wireless cities" using a variety of wireless access technologies to provide on-demand anytime, anywhere wireless network access in such cities in order to offer a full range of information, government, business and public services, to promote the development of tourism and other industries, and to enhance the image of the city.

"Big 3" carriers all target the use of WiFi to accelerate the development of such wireless cities. At present, the extent to which the Big 3 have publicized the efforts to develop wireless cities clearly demonstrates that wireless cities represent not only a "flagship" product of the carriers but also the future of the telecom industry in China.

A new revolution has been caused by electronic information technology from urban information to intelligent city construction have led to a growing number of cities implementing smart city -building strategies. In 2012, China will focus on building smart cities. In building smart cities, the government will promote the use of wireless, digital, and intelligent buildings which will inevitably become an important part of service-oriented government construction. At present, China has hundreds of cities proposing to begin construction of smart cities and/or wireless cities. Creating smart cities could provide better promotion of construction of a service-oriented government, and also will provide a more scientific and external environment for social transformation.

Growth in Mobile Subscribers

Growth in the wireless infrastructure market has also been driven by the significant increase in the number of mobile subscribers and in the amount of data transmitted over wireless networks by smart phones in China. This growth results in increasing burdens being placed on the carriers' wireless infrastructure that can overload the network. Overworked wireless networks result in poor wireless service, slow data transfer rates and dropped calls. In order to alleviate the burdens being put on the wireless infrastructure and to increase wireless network capacity, the Big-3 continue to deploy and upgrade their wireless infrastructure equipment.

"The Internet of Things"

In China, a budding phenomenon has developed, referred to as "The Internet of Things" in organizations and businesses. The Internet of Things literally translates into "the connection of things", whether they are products, components or systems, so that individuals can communicate intelligently with one another and can communicate remotely with their home and office computers, home appliances and other electronic devices. Everything from home appliances, public infrastructure and facilities, to logistic processes will be assigned an IP address and connected to the Internet of Things through a wired or wireless connection. This demand is expected to increase the need for wireless infrastructure.

Increasing and Evolving Need for Indoor Wireless Coverage

Historically, "indoor wireless" meant only Wi-Fi enabled laptops, but currently, mobile users in China also rely on mobile and smart phones, BlackBerry devices, PDAs, and two-way radios to communicate. All of these devices require indoor wireless coverage to operate effectively. However, while many residential and commercial properties in China may have wireless local-area networks (LAN networks), the vast majority do not have indoor wireless cellular coverage for mobile or smart phones. In order to better serve the needs of their tenants, we expect that property owners will increasingly look to deploy indoor wireless coverage solutions.

The state has decided the integration of telecommunications networks, TV and radio broadcasting networks, and the internet to be the next step in the evolution of these industries. Such integration shall include telecommunications, broadcasting, internet communications, broadband, digital TV, next-generation internet, network interoperability and resource sharing, voice, data and broadcasting a variety of services, etc. The integration of telecommunications networks, TV and radio broadcasting networks and the internet, etc. does not mean unification of of these industries, but rather integration of services provided by players in each of the respective industries. This broad extension of the market space will create more development opportunities.

Integration involves system, management, business and the other complex distribution of benefits problems. In order to overcome these integration issues, the potential monopoly issues must be overcome. The integration really needs to consider how to achieve true peer-to-peer access, in other words true distribution of business content and business interests in order to form an effective mode of operation.

It is crucial to break the barriers created by potential monopolies to ensure coordination between the broadcasting businesses and telecommunications services. Users should be able to select networks to surf the net, watch TV, communicate over the phone and use other telecommunications value-added services through the network. As a result, old trade monopolies will be diminished, and gradually new industry standards established, and the integration will play a significant role in the ecology of the entire telecommunications and broadcasting industries.

Our Solution

We design, engineer and sell RF-based local-access network solutions for indoor and outdoor wireless coverage and WFDS™ solutions for unified local access-network coverage. In the past, our focus has been on RF-based local access-network solutions, but in the future we expect to leverage our WFDS™ technology to transition our customers to a unified local access-network solution. Our WFDS™ solutions are designed for use by property owners of all types of buildings including enterprises, municipalities, small businesses and homes. Our unified local access-network WFDS™ solutions integrate multiple access services, have a lower total cost of ownership and provide better wireless coverage.

Unified Local Access Network WFDS™ Solution

We plan to leverage our first-mover advantage with our WFDS™ technology in order to increase our penetration into the Chinese market and to strengthen our relationships with the Big-3 for whom we believe our WFDS™ solution is a critical component to remain aligned with industry trends and government-sponsored initiatives.

Key benefits of our unified local access-network WFDS™ solution include:

· Compatibility with the Big-3's technologies and integrated services. Our WFDS™ solution is the industry's first solution capable of providing integrated services on a single integrated platform. Our unified solution approach as well as our commitment to research and development have strategically positioned us to be a beneficiary of the Chinese government's directive for network convergence.

· Reduction in capital expenditures. The combination of integrating services along with the use of our patented fiber-optic technology should enable the Big-3 to significantly reduce their wireless infrastructure capital expenditures.

· Reduction in space required. Utilizing our WFDS™ technology, property owners can reduce the installation space required for mobile wireless cable and internet service by consolidating eleven devices into one. In a single compact, all-optical platform, we offer customers integrated solutions streamlined to meet our customer's requirements.

· Easy to install, use and maintain. Our WFDS™ solution enables a property owner to deploy a single multi-functional platform in a simple and consolidated form. WFDS™ is easy to install and is centrally managed, is compatible with 2G and 3G services, and is forward compatible with 4G services.

RF-based Local Access Network Solutions

We provide RF-based local access-network solutions to the telecommunications industry for environments including hotels, residential estates, office buildings, airports, exhibition centers, underground stations, highways and tunnels. Our suite of products that we deploy as part of these solutions includes base station and tower mounted amplifiers, antennas, couplers and splitters. Our RF-based products support various 2G and 3G transmission standards, including CDMA, W-CDMA, GSM and TD-SCDMA.

TIPS Solutions

TIPS (Telestone Intelligence Premises System) is a groundbreaking technology based on Telestone's WFDS™ technology. The core of TIPS is Telestone's Unified Premises Information Network System ("UPINS") technology, which distributes all information generated or required at any time and at any location within a premises network in a timely manner. TIPS networks are characterized by ultra-wide bandwidth, long transmission distances, and multi-cascading technology. So far we have completed the theoretical research and development of the core technology for TIPS.

TIPS is expected to be used in a broad range of applications including municipal projects, airports, railways, highways, streets, communities, buildings, houses, and medical facilities, etc. For internal communications capabilities, the functions of TIPS can be divided into IP fiber optic networks and wireless telephony features, office computing optical networks and wireless access capabilities, and wireless access teleconferencing, etc. For the external public communications services, the functions of TIPS can be divided into wireless signal coverage for public communications, WLAN converage for telecommunications carriers, and cable TV access functions, etc. For network management and maintenance, the functions of TIPS can be divided into network monitoring and traffic management, information security management, and behavior management, etc. For security management, the functions of TIPS can be divided into entrance guard and attendance management, video intercom management, and multimedia publishing, etc.

TIPS is closely related to the integration of telecommunications, TV and radio broadcasting and internet access into one unified network, a project initiated by the State Council. TIPS also provides reliable solutions to developing "smart cities" via its comprehensive network integration capabilities, intelligent management, cost-saving materials and unique energy-saving features.

Our Competitive Strengths

We believe that the following competitive strengths enable us to compete effectively and to capitalize on the growth opportunities in our markets:

Strong Research and Development Capabilities

Our R&D capabilities rank among the best in the PRC's telecommunications industry. We have a robust engineering project management system and an experienced engineering team. Our research and development center is equipped with the latest equipment and testing facilities, which give our research and development personnel the tools they require to make significant advances in access-network technologies. In addition, we provide our employees with continuing education administered through internal programs.

Our R&D capabilities are recognized and approved by the PRC government and have won accolades such as the Project Certificate of National-level Torch Program and the Project Certificate of Nation-level Spark Program. In addition, a number of our products and systems, several of which have been patented or are patent pending, have been awarded various science and technology honors by PRC provincial and municipal governments. We are focused on increasing our research and development efforts to develop superior and proprietary technologies.

Our proprietary WFDS™, the result of our R&D efforts, is one of the leading indoor access-network products in China. Compared with other traditional wireless distribution systems, our WFDS™ system has many advantages. Firstly, WFDS™ uses fiber optic cable to transport signals. Based on the low signal-loss characteristic of fiber optic cable, through which signals can be transmitted over long distances, the main unit ("MU") can be placed closer to the signal source, and the remote unit ("RU") can be placed closer to the subscribers. Therefore, a micro-power signal source can be used, which reduces interference and noise, generates low electromagnetic interference, and expands the coverage area. Secondly, due to the input port of the MU connecting to the signal combiner, WFDS™ systems can support multiple signals' access and network integration. WFDS™ can provide all broadband communication services access in the 500 kHz ~ 3 GHz band for subscribers. Thirdly, due to the fact that each node of the system has the same bandwidth and flow characteristics, WFDS™ can provide the same communication services for every subscriber. WFDS™ systems are also easy to manage and flexible for implementing expansion and upgrades of systems with minimum cost.

Broad and diverse market base

Our business covers a wide region. We have 30 branches throughout China and our business covers approximately 29 countries worldwide.

Experienced marketing staff

We employ a group of experienced telecommunications experts and an experienced and technologically savvy marketing staff in China.

Strong customer relations

We have maintained long-term relationships with China Unicom, China Mobile, China Telecom and China Netcom as customers for approximately 14 years.

Governmental support

As a high-tech enterprise with an established track record, our company enjoys the stimulus plans offered by China's industry governmental authorities and by local authorities, including the Ministry of Science and Technology, the Ministry of Industry and Information Technology, the Beijing municipal government and the Administrative Committee of Z-Park.

Our Growth Strategy

In order to maintain our position as one of the leading companies in the PRC's access-network solutions sector, and expand and diversify our revenue streams, we have adopted the following strategies:

Continue to focus on research and development

We plan to continue to invest in research and development for our key technologies and products to enhance our leading position in the access network technology market and take full advantage of the PRC's investment in 3G and 4G networks. We have dedicated research and development programs to advance access-network solutions for the continued development of our business.

Seek selective acquisitions and strategic investments

In the domestic market, we intend to maintain strong relationships with Chinese mobile telecommunications carriers and potentially make selective acquisitions in major provincial markets where we do not have a leading market share. Our potential targets are companies that enjoy a leading market position and have strong business networks in their provincial markets, that have strong production capabilities, that own applicable value added products and whose customer network platforms adapt to WFDS™. We believe that we will further our penetration into provincial markets and raise our overall market share through selective acquisitions and the promotion of new solutions.

Strengthen international market presence

We plan to focus on increasing our presence in markets outside of the PRC. We will continue to strengthen our presence abroad by leveraging our expertise and our leading access-network products and solutions. In the United States, we plan to seek cooperation with peers that have strong research and development abilities and develop technology and products that are suitable for the PRC market. We also seek partners within the integration business to sell our products. In developing countries, we only seek cooperation with local integration partners to deliver our access network solution technologies. We then work with these partners to set up our local product distribution channels.

Description of Products and Engineering Services

We design and sell electronic equipment used to provide access-network solutions to our customers. Many of these types of equipment, including WFDS™ products, RFPA products, passive components and base station antennas for 2G, 3G, Broadband access and CATV networks, are highly specialized active microwave components designed to meet the needs of our customers.

In addition to designing and selling our products, we also provide systems integration services to our customers. The primary systems integration services provided to our customers are project design and engineering, specifically, the development and design of indoor (living quarters, hospital systems, and hotels) and outdoor (expressways, railways and no coverage zones) wireless signal complementary coverage solutions and their applied products. This includes the design of the required equipment, implementation, project quality evaluation as well as after-sale maintenance and optimization for system integration products, constructive products for engineering design projects and wireless network optimization products.

Research & Development

We maintain a research and development center where the majority of our products are designed by our staff of engineers and scientists. Our research and development center is equipped with the latest equipment and testing facilities, which give our research and development personnel the tools they require to make significant advances in access-network technologies. The center is comprised of three research centers including (i) the Premises Neural Network Research and Development Center, (ii) the Joint Development center, and (iii) the System Product Research Center, and seven professional research departments including:
(i) the Resident Neural Network Research and Development Department, (ii) the Radio Station Network Development Department, (iii) the Equipment R&D Department, (iv) the Parts Development Department, (v) the IP Resident Network Research and Development Department, (vi) the Government Intelligent Systems Research and Development Department, and (vii) the Business Intelligent Systems Research Department.

We seek to remain at the forefront of current and future technologies, paying close attention to evolving development trends in domestic and international technologies. Our R&D capabilities are recognized and affirmed by the PRC government and have won awards such as the Project Certificate of National-level Torch Program and the Project Certificate of Nation-level Spark Program. In addition, a number of our products and systems, several of which have been patented or are patent pending, have been awarded various science and technology honors by PRC provincial and municipal governments.

Competition

Our main domestic competitors are Guangdong Comba, Wuhan Hongxin and China GrenTech.

· Guangdong Comba was one of the first Chinese domestic telecom manufacturers. The company is listed on the Hong Kong Stock Exchange under the stock symbol 2342.HK.

· Wuhan Hongxin, originally a state-owned enterprise under the management of Wuhan Post & Telecom Academy, has a strong technical background and sales . . .