You should read the following discussion and analysis of our financial condition and results of operations in conjunction with our combined and consolidated financial statements and the related notes included elsewhere in this Annual Report on Form 10-K. The discussion in this section contains forward-looking statements that involve risks and uncertainties. As a result of various factors, including those set forth under "Risk Factors" and elsewhere in this report, our actual future results may be materially different from what we expect.

Results of Operations-Comparison of the years ended June 30, 2012 and 2011

Certain amounts pertaining to June 30, 2011 and the year then ended have been reclassified to conform to the current year's financial statements presentation. These reclassifications had no impact on the previously reported financial position, results of operations or cash flows.

Revenue

Revenue for the year ended June 30, 2012 was $8,134,077, representing a 22.3% increase from the revenue of $6,651,048 for the year ended June 30, 2011. The increase in revenue was mainly attributed to the increase in sales of our main product, Zhongtongan. The revenue contribution from Zhongtongan increased by 33% when compared to 2011 as we expanded our sales reach from the original pediatric and stomatological divisions to cover a new market at the gynecology and orthopaedics divisions in the hospitals. However, the increase in sales of Zhongtongan was partially offset by a decline in revenue from certain low margin products, as the Company, early in the fiscal year, initiated a sales strategy of moving to high margin products.

The following table shows the dollar volume of sales of our primary product lines in each of the past two fiscal years:

                                         Fiscal 2012      Fiscal 2011
                Herbal Therapeutics:
                Zhongtongan                 7,253,824        5,451,327
                ShuangHuangLian                 1,626          321,323
                Other                         844,684          801,541
                Sub-Total                   8,100,134        6,574,191

                Opioid Analgesics:
                Naloxone Hydrochloride         33,943           76,857
                Other
                Sub-Total                      33,943           76,857

                Total                    $  8,134,077     $  6,651,048

Our sales of opioid analgesics remain modest. The requirement of the China SFDA that we obtain renewed licenses for our facilities after we consolidated the LRT manufacturing facility with our Hebei Aoxing manufacturing facility was not satisfied until the beginning of fiscal 2011, which prevented us from aggressively marketing our opioid analgesics. We expect sales of opioid analgesics to represent a larger portion of our overall sales in future years, particularly as our pipeline products reach the market.

Cost of Goods Sold; Gross Profit

Despite the 22.3% increase in our revenue from fiscal 2011 to fiscal 2012, our cost of goods sold declined by 2.8% from year to year. This improvement was primarily the result of our strategic decision to refocus the efforts of our sales staff away from the lower margin products, such as Shuanghuanglian, and focus our efforts on the sales of our higher margin core product, Zhongtongan. As a result of this strategic re-focus, our gross margin increased from 50.0% in fiscal 2011 to 60.2% in fiscal 2012, yielding a 47.4% increase in gross profit.

Research & Development Expenses

Research and development ("R&D") expenses were $577,951 for the year ended on June 30, 2012, representing a 37.8% decline from $929,598 incurred in fiscal 2011. Our R&D expenses may fluctuate significantly from period to period, reflecting the progress and timing of our various drug development projects. A number of our clinical trials started in 2010 and 2011were completed during fiscal 2011 and early 2012, which resulted in a lower R&D expenses in 2012. We expect some new product approvals, but we continue to build our pipeline; so R&D expenses will continue to fluctuate.

General and Administrative Expenses

Our general and administrative expenses consist primarily of employee compensation and benefits payable to general management, finance and administrative staff, professional and legal fees, and bad debt expenses. In the year ended June 30, 2012, our general and administrative expenses were $3,055,424, a decrease of $1,995,607 or 39.5% compared to the $5,051,031 incurred during the previous year. In addition to our overall efforts to reduce costs, the main reasons for the decrease in general and administrative expense were:

· During the year ended June 30, 2011, we incurred $1,207,261 in stock compensation expense; in fiscal 2012 stock compensation expense was only $620,586.

· In fiscal 2011 we incurred $917,959 in bad debt expense when fully reserving the remaining receivables obtained in our acquisition of LRT determined to be uncollectable; in fiscal 2012 bad debt expense was reduced to $18,981.

· In fiscal 2012 , the Company terminated 20 staff members due to redundancy. In addition, 5 managers who resigned were not replaced. These staff reductions represented approximately $230,000 in savings.

The remaining decrease in general and administrative expenses were related to cost cutting measures to decrease consulting fees and other office expenses.

Selling Expense

Selling expense for the year ended June 30, 2012 was $1,823,791 and was 13.8% higher than the selling expense of $1,603,114 for the year ended June 30, 2011. The increase was mainly due to the increase in promotional fees of approximately $204,000 when compared to 2011. The promotional fees were directly related to the sales of Zongtongan.

Depreciation and Amortization

Depreciation and amortization expense decreased 0.4% from $594,720 in fiscal year 2011 to $592,567 in fiscal 2012. The expense is stable because our fixed assets have relative long useful life and there was no material new purchase or disposal during 2012.

Impairment Loss on Goodwill

The purchase price that we paid for LRT and 35% of Hebei Aoxing in 2008 exceeded the fair market value of the net assets that we acquired, and we recorded the excess as goodwill on our balance sheet. At the end of the 2012 fiscal year, we engaged a valuation expert to assist us in evaluating our operating company and determining whether the goodwill on our balance sheet had been impaired. The Company, with the assistance of the valuation expert, performed the first step in the goodwill impairment test and determined that the carrying value exceeded the fair value. The second step determined the amount of the impairment by comparing the implied fair value to the carrying amount of the fair value. Using a discounted present value of our projections of long term cash flow, it was determined the carrying amount of the goodwill exceeded the implied fair value as of June 30, 2012 by $13,398,614. Accordingly, we reduced the goodwill on our balance sheet by that amount, and recorded that amount as an impairment loss on our statement of operations for the year ended June 30, 2012.

Loss from Operations

Although our revenues increased and our operations were significantly more efficient in fiscal 2012 than in fiscal 2011, the $13,398,614 impairment loss on goodwill recorded in fiscal 2012 caused our loss from operations for that year to exceed loss from operations in fiscal 2011 by $9,693,386.

Other Income (Expense)

Four non-operating factors contributed to our net loss for the past two fiscal years:

· Interest expense was $1,862,861 for fiscal year 2012, an increase of 6.8% compared to interest expense of $1,744,735 incurred in fiscal year 2011. The increase is mainly due to higher interest rates of two bank loans and additional outstanding short-term loans..

· In 2007 we issued common stock purchase warrants in connection with an offering of debt securities. During the 2011 fiscal year, a decrease in the value of our common stock led to a decrease in the value of the warrants. We recorded that decrease in the value of the warrants as other income totaling $1,912,373. The warrants expired without exercise on September 28, 2011, having changes in value only modestly between July 1, 2011 and that date. Based on that modest change, we recorded $1,161 in other income arising from the warrants for the year ended June 30, 2012.

· During the year ended June 30, 2012, we recorded an other expense of $132,311, which represented our 51% beneficial interest in the loss incurred in that period by our joint venture with Johnson Matthey PLC. The joint venture had no operations during fiscal 2011.

· During the year ended June 30, 2012, the Company's subsidiary in China, Hebei Aoxing, received three local government subsidies totaling RMB 4,230,000 (approximately $664,781). In fiscal 2011, there was approximately $263,685 of such income. These government subsidies were given to the Company with no restrictions and are for operating purposes. We recorded the subsidies and grants as other income.

Income Taxes

Because Hebei Aoxing recorded a net loss from operations in fiscal 2012, we recorded no income tax for that year.

Hebei Aoxing also recorded a loss from operations in fiscal 2011. However, in prior years the Company had recorded as a deferred tax asset the benefit that it anticipated receiving by applying its net operating loss carryforward to offset future taxable income in China. As of June 30, 2011, however, we concluded that it was more likely than not that the operating loss carryforward in China will not be realized, as we expect the net operating loss to expire before we record taxable income. For this reason, we wrote-off the deferred tax asset. We recorded the amount of the write-off, $3,394,103, as a tax expense in fiscal 2011.

Net Loss

Primarily due to its $13,398,614 impairment loss, the Company realized a net loss of $15,877,754 for the fiscal year ended June 30, 2012. However, because the Company owns only 95% of Hebei Aoxing, 5% of that company's net loss was attributed to the minority interest. Therefore the net loss for the fiscal year attributable to the shareholders of Aoxing Pharmaceutical was $15,820,320. In comparison, during the fiscal year ended June 30, 2011, the Company's net loss was $7,817,918 and, after deducting loss attributable to the 5% minority interest in Hebei Aoxing, net loss attributable to shareholders of Aoxing Pharmaceutical was $7,410,848.

Liquidity and Capital Resources

Liquidity is the ability of a company to generate funds to support its current and future operations, satisfy its obligations and otherwise operate on an ongoing basis.

Our cash balance as of June 30, 2012 was $3,682,743, compared to $2,770,744 as of June 30, 2011. The increase reflected the $2,986,013 increase in our short-term borrowings during the year, which were only partially offset by a net cash use in operating activities of $1,326,190 and capital expenditure of $752,386.

Operations during the year ended June 30, 2012 used $1,326,190 in cash, as compared to $2,673,141 used for the year ended June 30, 2011. The primary reason for the decreased use of cash was the $1,576,498 increase in gross profit discussed above. In addition, despite the 22% increase in revenues, we reduced the rate of growth of our accounts receivable from an increase of $1,105,898 in fiscal 2011 to an increase of $764,164 in fiscal 2012.

Our investing activities in fiscal 2012 consisted of $752,386 in cash used to purchase additional property and equipment. During the year ended June 30, 2011 investing activities used $715,509 in cash, as the Company invested $1,373,156 in additional property and equipment, but offset the cash by collecting $651,525 in loans previously made to an unrelated party.

Our financing activities provided $2,821,358 in cash during the year ended June 30, 2012. On December 5, 2011, Hebei Aoxing, executed a financing agreement with Shijiazhuang Construction Investment Group and China Construction Bank. Under the agreement, the Company obtained a loan of RMB 20 million ($3,164,707) from Shijiazhuang Construction Investment Group, disbursed through China Construction Bank. The Company also paid down RMB 1 million ($157,159) to Shijiazhuang Finance Bureau.

Our use of funds borrowed on a short-term basis to fund our operations and our capital investments caused our working capital deficit to increase during fiscal 2012. Our working capital deficit on June 30, 2012 was $9,112,842, which was $1,855,275 more than the working capital deficit of $7,257,567 on June 30, 2011. The primary reason for our working capital deficit is the fact that all of our bank debt is classified as short-term. In accordance with banking customs in China, our bank loans have, throughout our history, been written on a short-term basis. To date, however, we have found the banks willing to renew our loans annually after review.

As a result of several debts refinancing during fiscal 2012, our debt service obligations on June 30, 2012 were as following:

Contractual
Obligations            Total          Less than 1 Year       1-2 Years       2-3 Years         3-4 Years           4-5 Years          After 5 Years
Short Term
Borrowing           $  3,243,825     $        3,243,825               -               -                   -                   -                     -
Interest
Commitment
- Short Term
Borrowing                205,930                205,930               -               -                   -                   -                     -
Banks (a)              8,702,945              8,702,945               -               -                   -                   -                     -
Interest
Commitment -
Banks                    568,837                568,837               -               -                   -                   -                     -
Affiliates             3,713,501                213,733     $ 3,286,823     $   212,945                   -                   -                     -
Interest
Commitment -
Affiliates             1,186,769                 16,635       1,132,858          37,276                   -                   -                     -
Others (b)             1,804,832                114,562               -       1,690,270                   -                   -                     -
Interest
Commitment -
Others                   568,937                 11,231               -         557,706                   -                   -                     -
TOTAL               $ 19,995,576     $       13,077,698     $ 4,419,681     $ 2,498,197                   -                   -                     -

(a) This total amount includes a $ 3,955,884 loan from China Citic Bank. The loan and corresponding interest commitment were repaid in full on September 6, 2012.

(b) On August 14, 2012, the Company entered into a refinancing agreement with Beijing International Trust Co., Ltd and obtained a new loan of approximately $7.12 million with a term of two years. The loan was transferred to the Company's bank account on September 24, 2012. The interest commitment for this new loan will be approximately $2,571,428.

For the next 12 months, management anticipates cash use from operations will decrease, because of increased product sales and efforts to preserve cash. Additionally, management does not expect any large capital expenditure projects in the next 12 months. As a result, the Company will be able to operate at much lower cash burn rates, without any major impact on its operations.

On June 30, 2012, the Company had cash of $3.68 million in bank accounts, which management believes will be sufficient to support the Company's operation in the next 12 months. On August 14, 2012, the Company entered into a refinancing agreement with Beijing International Trust Co., Ltd and obtained a new loan of approximately $7.12 million with a term of two years. The loan was transferred to the Company's bank account on September 24, 2012. The proceeds were used to repay the outstanding loan from China CITIC Bank of approximately $3.96 million. The Company's cash balance was increased by $3.16 million after the refinancing.

The Company anticipates continued local governmental support. It may also take additional loans from related parties, if necessary. Furthermore, the Company will continue to seek financing to fund expansion of our operations, extend our reach to broader markets, or to acquire additional entities. We may rely on bank borrowing as well as capital raises. We are actively exploring various proposals and alternatives in order to secure sources of financing and improve our financial position. We are also exploring potential strategic partnerships, which could provide a capital infusion to the Company.

We have incurred recurring operating losses and had an accumulated deficit of $38.8 million as of June 30, 2012. Notwithstanding the foregoing, we had negative working capital of $9.1 million as of June 30, 2012. Our history of operating losses and lack of binding financing commitments raise substantial doubt as to our ability to continue as a going concern. Despite negative operating cash flow positions, our management anticipates that we will generate sufficient cash flows to fund our operations for the next twelve months by increasing revenues and profit margins of our core product sales and continued support from our lenders to rollover debt when it becomes due. If future sales do not meet our forecasts, we may be required to fund operations by raising additional capital or seek external financing. As such, our ability to achieve our business plan is primarily dependent upon our ability to grow our planned level of operations and/or obtain sufficient additional capital at acceptable costs. With respect to these objectives, we cannot provide any assurance that we will succeed. If events or circumstances occur such that we are unable to or do not meet our operating plan as expected and/or do not secure additional financing, we may be required to significantly curtail or cease operations.

Application of Critical Accounting Policies

In preparing our financial statements, we are required to formulate working policies regarding valuation of our assets and liabilities and to develop estimates of those values. In our preparation of the financial statements for fiscal year 2012, there were four estimates made which were (a) subject to a high degree of uncertainty and (b) material to our results. These were:

· The determination, described in Note 2 to our Consolidated Financial Statements, to record an allowance for doubtful accounts in the amount of $575,223. The determination was based on our review of the credit history of the relevant customers and the results of our collection efforts.

· The determination, described in Note 2 to our Consolidated Financial Statements, to record an impairment loss for goodwill in the amount of $13,398,614 for the year ended June 30, 2012. The determination was based on the results of a valuation assessment of our Hebei Aoxing reporting unit's tangible and intangible assets, which indicated that its carrying value exceeded the fair value.

· The determination, described in Note 14 to our Consolidated Financial Statements, to record a full valuation allowance for our deferred tax assets for the year ended June 30, 2012. The determination was based on the likelihood forecasted profits and taxable income would occur and our ability to utilize our cumulative loss carry-forwards.

We made no material changes to our critical accounting policies in connection with the preparation of financial statements for fiscal year 2012.

Impact of Accounting Pronouncements

New accounting rules and disclosure requirements can significantly impact the comparability of our financial statements. There are no recent accounting pronouncements that have had a material effect on our financial statements. Please refer to Note 2 of our consolidated financial statements included in Item 8 of this Form 10-K.

We do not have any off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition or results of operations.