Exhibit 10.2

TERM LOAN AND SECURITY AGREEMENT

dated as of December 29, 2006

by and between

IRVINE SENSORS CORPORATION

and

LONGVIEW FUND, L.P.

et al.

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LONGVIEW FUND, L.P.

TERM LOAN AND SECURITY AGREEMENT

This Term Loan and Security Agreement (the “Agreement”) dated as of December 29,
2006 is entered into by and between Longview Fund, L.P. and Alpha Capital
Anstalt (collectively, “Lender”) and Irvine Sensors Corporation, a Delaware
corporation (“Borrower”).

WITNESSETH:

WHEREAS, Borrower wishes to borrow funds from Lender; and

WHEREAS, Lender desires to extend credit to Borrower; and

WHEREAS, this Agreement sets forth the terms on which Lender will lend monies to
Borrower, and Borrower will repay the amounts owing to Lender; and

WHEREAS, pursuant to a Subscription Agreement among the Company and the Lenders,
of even date herewith, and ancillary documentation executed in connection
therewith, including, but not limited to, the Warrants, the Registration Rights
Agreement and all agreements with respect to the Subordinated Debt
(“Subscription Documentation”), the Lenders have agreed to assume the
obligations under (i) those certain Irvine Sensors Corporation Series 1 Senior
Subordinated Secured Convertible Notes Due December 30, 2009 dated as of
December 30, 2005 by the Company in favor of Pequot Private Equity Fund III,
L.P. and Pequot Offshore Private Equity Partners III, L.P. and (ii) those
certain Irvine Sensors Corporation Series 2 Senior Subordinated Secured
Convertible Notes Due December 30, 2007 dated as of December 30, 2005 by the
Company in favor of Pequot Private Equity Fund III, L.P. and Pequot Offshore
Private Equity Partners III, L.P. (the “Subordinated Debt”). All capitalized
terms used and not defined herein are used as defined in the Subscription
Documentation.

NOW, THEREFORE, in consideration of the mutual conditions and agreements set
forth herein, and for other good and valuable consideration, the receipt and
sufficiency of which is hereby acknowledged, Borrower and Lender agree as
follows:

1. Definitions

1.1. Certain Definitions. As used herein the following terms have the meanings
set forth below:

“Accounts” means all of Borrower’s accounts, accounts receivable, contract
rights, and all other debts, obligations and liabilities in whatever form owing
to Borrower from any Person for goods sold by Borrower or for services rendered
by Borrower, or however otherwise established or created; all guaranties and
security therefor, all right, title and interest of Borrower in the goods or
services which gave rise thereto, including rights to reclamation and stoppage
in transit and all rights of an unpaid seller of goods or services; whether any
of the foregoing be now existing or hereafter arising, now or hereafter received
by or owing or belonging to Borrower.

 

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“Acquisition” means the acquisition by Borrower of one hundred percent (100%) of
the issued and outstanding capital stock of Optex, pursuant to the Acquisition
Documents.

“Acquisition Documents” means the Stock Purchase Agreement dated as of
December 30, 2005, by and between Borrower, Optex and Seller, and the schedules
and exhibits thereto, and any and all agreement and instruments executed in
connection therewith; each as amended from time in form and substance reasonably
satisfactory to Lender.

“Affiliate” shall mean any Person which directly or indirectly is in control of,
is controlled by, or is under common control with Borrower.

“Assignee” has the meaning set forth in Section 15.3 hereof.

“Borrower” has the meaning given such term in the Preamble hereto.

“Borrowing Date” as to any Loan shall mean the Business Day on which such Loan
is made.

“Business Day” has the meaning given such term in Section 2.9 hereof.

“Capital Expenditures” shall mean, for any period, amounts included or required
to be included in the fixed assets account on a balance sheet of a Borrower in
accordance with GAAP and shall include, in the case of a purchase, the entire
purchase price and, in the case of a Capital Lease (but not an operating lease),
the entire rental for the term.

“Capital Leases” means capital leases, conditional sales contracts and other
title retention documents relating to the acquisition of capital assets (as
classified in accordance with GAAP).

“Change in Control” shall mean (i) the Company no longer having a class of
shares publicly traded or listed on a Principal Market, (ii) the Company
becoming a Subsidiary of another entity (other than a corporation formed by the
Company for purposes of reincorporation in another U.S. jurisdiction), (iii) a
majority of the board of directors of the Company as of the Closing Date no
longer serving as directors of the Company except due to natural causes,
(iv) the sale, lease or transfer of substantially all the assets of the Company
or Subsidiaries, or (v) the Company’s directors, executive officers and Cash or
Deferred & Stock Bonus Plan (the “Principal Stockholders”) cease to own directly
or indirectly in the aggregate more than 40% of the shares beneficially owned by
such Principal Stockholders as a group as of the Closing Date, other than any
transfer (a) by will or intestacy or for estate planning purposes, (b) by a
Principal Stockholder to such Principal Stockholder’s ancestors, descendants,
siblings, adopted children or spouse or to trusts for the direct or indirect
benefit of such persons, or (c) as a distribution by the Cash or Deferred &
Stock Bonus Plan.

“Closing Date” means the date that the Term Loan is made pursuant to Section 2
of this Agreement.

“Code” means the New York Uniform Commercial Code as amended or supplemented
from time to time.

 

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“Collateral” has the meaning given such term in Section 3 hereof.

“Collateral States” means the state or states where the Collateral is located,
which are California and Texas.

“Commitment Period” means the period from and including the Closing Date to but
not including the Termination Date.

“Commonly Controlled Entities” shall mean entities sharing “common control”
under ERISA.

“Contingent Liability” means any obligation of a Person guaranteeing or in
effect guaranteeing any Indebtedness, leases, dividends or other obligations of
any other Person in any manner, whether directly or indirectly or any obligation
otherwise to assure or hold harmless any other Person against any loss or cost
in respect of services rendered or products furnished and any other contingent
liability or obligation as determined in accordance with GAAP; provided,
however, that the term Contingent Liability shall not include endorsements of
negotiable instruments in the ordinary course of business.

“Copyrights” means any and all copyright rights, copyright applications,
copyright registrations and like protections in each work or authorship and
derivative work thereof, whether published or unpublished and whether or not the
same also constitutes a trade secret, now or hereafter existing, created,
acquired or held.

“Default” means any event or occurrence which, with notice or lapse of time or
both, might become an Event of Default.

“Default Rate” shall have the meaning set forth in Section 2.6.

“Distributions” means, for the applicable period, the aggregate of all amounts
paid or payable (without duplication) as dividends, distributions or owner
withdrawals and includes any purchase, redemption or other retirement of any of
any Borrower’s equity interests, directly or indirectly through a subsidiary of
any Borrower or otherwise and includes return of capital by any Borrower to its
equity holders; provided, however, that the following shall not be deemed to be
Distributions hereunder: (a) salary and other compensation paid to equity
holders in their capacities as employees and officers of any Borrower
(b) expense reimbursement payable to officers of any Borrower; (c) the
repurchase the stock of former employees pursuant to stock repurchase agreements
as long as an Event of Default does not exist prior to such repurchase or would
not exist after giving effect to such repurchase; and (d) the repurchase the
stock of former employees pursuant to stock repurchase agreements by the
cancellation of indebtedness owed by such former employees to Borrower
regardless of whether an Event of Default exists.

“Earnings” means, for any applicable period, income (loss) from continuing
operations and before all extraordinary and nonrecurring items, determined in
accordance with GAAP.

“Earnings Before Interest, Taxes, Depreciation and Amortization” (“EBITDA”)
means, for the applicable period, consolidated net income (exclusive of any
extraordinary or non-recurring gains and extraordinary or non-recurring non-cash
losses and other income which is not from the

 

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continuing operations of the Borrower) of the Borrower and its subsidiaries
plus, to the extent deducted from such consolidated net income, net interest
expenses, income taxes and depreciation/amortization expense, all determined in
accordance with GAAP.

“Equipment” means all Borrower’s now or hereafter acquired equipment, machinery,
plant, furnishings, fixtures, and other fixed assets now owned or hereafter
acquired by any Borrower, including (without limitation) all items of machinery
and equipment of any kind, nature and description, as well as trucks and
vehicles of every description, trailers, handling and delivery equipment and
office furniture, and all additions to, substitutions for, replacements of or
accessions to any of the foregoing items and all attachments, components, parts
(including spare parts) and accessories, whether installed thereon or affixed
thereto, and all fuel for any thereof.

“ERISA” means the Employee Retirement Income Security Act of 1974, as amended
from time to time.

“Event of Default” means any event specified in Section 11.

“GAAP” means generally accepted accounting principles in the United States of
America, consistently applied.

“General Intangibles” means all intangible personal property of Borrower not
included in Accounts or in Instruments and Documents, and Investment Property,
now or hereafter owned or acquired by Borrower, and also means and includes all
right, title and interest of Borrower now or hereafter owned or acquired in
intellectual property, patents, patent applications, goodwill, trademarks,
trademark applications, trade names, trade secrets, service marks, copyrights,
permits, licenses, federal, state, or local tax refunds, claims under insurance
policies (whether or not Proceeds), other rights (if any) to payment, rights of
set off, chooses in action, rights under judgments, computer programs and all
to, or of which Borrower is a party or beneficiary, and all leasehold interests
of Borrower in real estate to the extent considered law.

“Indebtedness” means (i) Indebtedness for Borrowed Money and (ii) all other
liabilities or obligations which would, in accordance with GAAP, be classified
as liabilities of such Person.

“Indebtedness for Borrowed Money” means (i) all liabilities for borrowed money,
(A) for the deferred purchase price of property or services, and (B) under
leases which are or should be, under GAAP, recorded as Capital Leases, in each
case in respect of which a Person is directly or indirectly, absolutely or
continently liable as obligor, guarantor, endorser or otherwise, or in respect
of which such Person otherwise assures a creditor against loss, and (ii) all
liabilities of the type described in (i) above which are secured by (or for
which the holder has an existing right, contingent or otherwise, to be secured
by) any Lien upon property owned by such Person, whether or not such Person has
assumed or become liable for the payment thereof.

“Instruments and Documents” means all “instruments,” “documents,” “deposit
accounts,” and “chattel paper,” as defined in Article 9 of the UCC, all
securities, and includes (without limitation) all warehouse receipts and other
documents of title, policies and certificates of insurance, checking, savings,
and other Lender accounts, certificates of deposit, checks, notes, drafts,
bills, and acceptances, now or hereafter acquired, to the extent not included in
Accounts or Investment Property.

 

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“Intangible Assets” means assets that in accordance with GAAP are properly
classified as intangible assets, including, but not limited to, goodwill,
franchises, licenses, patents, trademarks, tradenames and copyrights.

“Intellectual Property Collateral” means all of Borrower’s right, title, and
interest in and to the following:

(a) Copyrights, Trademarks and Patents;

(b) Any and all trade secrets, and any and all intellectual property rights in
computer software and computer software products now or hereafter existing,
created, acquired or held;

(c) Any and all design rights which may be available to Borrower now or
hereafter existing, created, acquired or held;

(d) Any and all claims for damages by way of past, present and future
infringement of any of the rights included above, with the right, but not the
obligation, to sue for and collect such damages for said use or infringement of
the intellectual property rights identified above;

(e) All licenses or other rights to use any of the Copyrights, Patents or
Trademarks, and all license fees and royalties arising from such use to the
extent permitted by such license or rights;

(f) All amendments, renewals and extensions of any of the Copyrights, Trademarks
or Patents; and

(g) All proceeds and products of the foregoing, including without limitation all
payments under insurance or any indemnity or warranty payable in respect of any
of the foregoing.

“Interest” means, for the applicable period, all interest paid or payable,
including, but not limited to, interest paid or payable on Indebtedness for
Borrowed Money, determined in accordance with GAAP.

“Inventory” means all inventory of whatever name, nature, kind or description,
all goods held for sale or lease or to be furnished under contracts of service,
finished goods, work in process, raw materials, materials used or consumed by
Borrower, supplies, all wrapping, packaging, advertising, labeling, and shipping
materials, rights and documents relating to any of the foregoing, whether any of
the foregoing be now existing or hereafter arising, wherever located, now owned
or hereafter acquired by Borrower.

“Investment” means any transfer of property to, contribution to capital of,
acquisition of stock, other securities or evidences of indebtedness of,
acquisition of businesses or acquisition of property of any Person, other than
in the ordinary course of business.

 

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“Investment Property” means all now owned or hereafter acquired securities,
financial assets, securities entitlements and investment property of the
Borrower, as such terms are defined in Article 9 of the UCC.

“Lender” has the meaning given such term in the Preamble hereto.

“Lien” means any mortgage, pledge, assignment, lien, charge, encumbrance or
security interest of any kind whatsoever, or the interest of a vendor or lessor
under a conditional sale, title retention or capital lease agreement.

“Loan” or “Loans” (as the context permits) means the Term Loan.

“Loan Documents” means this Agreement, the Note and any and all other
agreements, instruments and documents relating to, evidencing or securing the
Obligations.

“Material Adverse Effect” shall mean an effect that constitutes a material
adverse change in Borrower’s financial condition, operations, business or
prospects, taken as a whole.

“Modified Following Business Day Convention” has the meaning given such term in
Section 2.9 hereof.

“Non-Financed Capital Expenditures” means Capital Expenditures not financed with
additional long-term debt or Capital Leases.

“Note” or “Notes” means (as the context permits) any or all notes evidencing the
Loan, including the Term Note.

“Obligations” means all loans, advances, interest, fees, debts, liabilities,
obligations (including, without limitation, contingent obligations under
indemnities and guaranties with respect thereto), agreements, undertakings,
covenants and duties owing or to be performed or observed by Borrower to or in
favor of Lender, of every kind and description (whether or not evidenced by any
note or other instrument or arising out of this Agreement, Notes, Subordinated
Loan Documents, the Subscription Documentation or any other agreement between
Lender and any Borrower or any other instrument of any Borrower in favor of
Lender), direct or indirect, absolute or contingent, due or to become due, now
existing or hereafter arising, including, without limitation, all interest,
fees, charges, and amounts chargeable to any Borrower under Section 12.1.

“Optex” means Optex Systems, Inc., a Texas corporation

“Participant” has the meaning given such term in Section 14.6 hereof.

“Patents” means all patents, patent applications and like protections including
without limitation improvements, divisions, continuations, renewals, reissues,
extensions and continuations-in-part of the same.

“PBGC” means the Pension Benefit Guaranty Corporation.

 

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“Permitted Liens” has the meaning given such term in Section 8.4.

“Person” means any individual, partnership, firm, association, business,
enterprise, trust, estate, company, joint venture, governmental authority,
corporation or other entity.

“Plan” means any employee plan subject to Title IV of ERISA maintained for
employees of any Borrower, any subsidiary of any Borrower or any other trade or
business under common control with any Borrower within the meaning of
Section 414(c) of the Internal Revenue Code or the regulations thereunder.

“Proceeds” has the meaning given such term under the UCC and, in any event,
includes (but is not limited to) (a) any and all proceeds of any insurance,
indemnity, warranty or guaranty payable from time to time with respect to any of
the Collateral, (b) any and all payments (in any form whatsoever) made or due
and payable from time to time in connection with any requisition, confiscation,
condemnation, seizure or forfeiture of all or any part of the Collateral by any
governmental authority (or any Person acting under color of governmental
authority), (c) whatever is received upon any collection, exchange, sale, lease
or other disposition of any of the Collateral and any property into which any of
the Collateral is converted, whether cash or non-cash proceeds, and (d) any and
all other products of, or any rents, profits or other amounts from time to time
paid or payable under, or in connection with, any of the Collateral.

“Related Collateral” means all Borrower’s goodwill; cash; deposit accounts;
claims under insurance policies (whether or not proceeds of other Collateral);
rights of set off; rights under judgments; tort claims and chooses in action;
computer programs and software; books and records (including without limitation
all electronically recorded data); contract rights; and all contracts and
agreements to or of which it is a party or beneficiary, whether any of the
foregoing be now existing or hereafter arising, now or hereafter received by or
belonging to any Borrower.

“Reportable Event” means any reportable event as defined in ERISA.

“Shares” means (subject to Section 4.13 hereof) (i) sixty-six and two-thirds
percent (66 2/3%) of the issued and outstanding capital stock, membership units
or other securities owned or held of record by Borrower in any Subsidiary of
Borrower which is not an entity organized under the laws of the United States or
any territory thereof, and (ii) one hundred percent (100%) of the issued and
outstanding capital stock, membership units or other securities owned or held of
record by Borrower in any Subsidiary of Borrower which is an entity organized
under the laws of the United States or any territory thereof.

“Subordination Agreement” means the Intercreditor, Subordination and Standby
Agreement of even date among the Lender, Subordinated Lender and Borrower, in
form and substance satisfactory to the Lender.

“Subordinated Debt” means Indebtedness of Borrower to Subordinated Lender that
is subordinated to the prior payment and enforcement of the Obligations pursuant
to the Subordination Agreement.

 

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“Subordinated Lender” means the Lender (solely with respect to the Subordinated
Debt) and Timothy Looney.

“Subsidiary” means with respect to any Person, any limited liability company
corporation, partnership, trust or other organization, whether or not
incorporated, the majority of the voting stock or voting rights of which is
owned or controlled, directly or indirectly, by such Person.

“Tangible Net Worth” means at any date as of which the amount thereof shall be
determined, the sum of the sum of the common stock, preferred stock, additional
paid-in capital and retained earnings (deducting treasury stock) of Borrower and
its Subsidiaries minus intangible assets, determined in accordance with GAAP.

“Term Loan” means the Term Loan in the principal amount of $8,250,000 to be made
by Lender to Borrower on the Closing Date.

“Term Loan Maturity Date” shall mean December 29, 2008.

“Term Note” means the promissory note in the form of Exhibit A hereto.

“Termination Date” means a termination of the Lender’s commitments hereunder
pursuant to Section 11.1 or the Term Loan Maturity Date, whichever is earlier.

“Trademarks” means any trademark and servicemark rights, whether registered or
not, applications to register and registrations of the same and like
protections, and the entire goodwill of the business of Borrower connected with
and symbolized by such trademarks.

“UCC” means the Uniform Commercial Code, as adopted and in effect in the State
of New York, as amended from time to time.

All terms used herein which are defined in Article 1 or Article 9 of the UCC
shall have the meanings given therein unless otherwise defined in this
Agreement. All references to the plural herein shall also mean the singular and
to the singular shall also mean the plural. All references to the Borrower and
Lender pursuant to the definitions set forth in the recitals hereto, or to any
other person herein, shall include their respective successors and assigns. Any
accounting term used herein unless otherwise defined in this Agreement shall
have the meanings customarily given to such term in accordance with GAAP. The
words “hereof,” “herein,” “hereunder,” “this Agreement” and words of similar
import when used in this Agreement shall refer to this Agreement as a whole and
not any particular provision of this Agreement and as this Agreement now exists
or may hereafter be amended, modified, supplemented, extended, renewed, restated
or replaced.

1.2. Accounting Terms. Any accounting term not specifically defined Section 1.1
shall be construed in accordance with GAAP and all calculations shall be made in
accordance with GAAP. The term “financial statements” shall include the
accompanying notes and schedules.

 

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2. Loans.

2.1. Term Loan.

2.1.1. General. Subject to the terms and conditions set forth in this Agreement,
Lender agrees to lend to Borrower on the Closing Date, the Term Loan in an
amount equal to $8,250,000.

2.1.2. Term Note. The Term Loan shall be evidenced by the Term Note which shall
be payable to the order of Lender in a principal amount equal to the Term Loan,
plus interest accrued thereon.

2.1.3. Repayment of Term Loan.

(a) Maturity. Borrower promises to pay on the Term Loan Maturity Date, and there
shall become absolutely due and payable on the Term Loan Maturity Date, one
hundred and ten percent (110%) of the entire principal of the Term Loan
outstanding on such date, together with any and all accrued and unpaid interest
and other charges, if any, thereon.

(b) Schedule of Installment Payments of Term Loan. Borrower promises to pay to
Lender accrued and unpaid interest on the Term Loan in consecutive quarterly
installments of interest, as set forth in the Term Note, such installments to be
due and payable in arrears on the first day of each calendar quarter of each
calendar year, commencing on January 1, 2007, with a final payment on the Term
Loan Maturity Date in an amount equal to the unpaid balance of the Term Loan
plus all accrued and unpaid interest, fees and penalties thereon.

(c) Optional Prepayment of Term Loan. Borrower shall have the right at any time
to prepay the Term Note on or before the Term Loan Maturity Date, as a whole, or
in part, upon not less than fifteen (15) Business Days prior written notice to
Lender, without premium or penalty. Any prepayment of the Term Loan shall first
be applied against accrued and unpaid interest and then against the then
remaining principal balance of the Term Loan. No amount repaid with respect to
the Term Loan may be reborrowed.

2.2. Interest and Payments.

2.2.1. Interest Rate Pricing Formula for Term Loan. The Term Loan shall bear
interest calculated on the basis of a 360-day year and the actual number of days
elapsed and payable quarterly in arrears on the unpaid principal amount thereof
from time to time outstanding at a rate per annum equal to 11% per annum.

2.2.2. Interest Payable in Cash or Stock. Interest will be payable in cash or if
an Event of Default, or an event which with the passage of time or the giving of
notice could become an Event of Default has not occurred, at the election of the
Borrower and subject to the approval of the Borrower’s shareholders, if such
approval is deemed necessary, by the Borrower’s delivery of registered Common
Stock (“Interest Shares”) valued at 80% of the

 

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average of the three lower closing bid prices of the Common Stock as reported by
Bloomberg L.P. for the Principal Market for the twenty trading days ending on
the trading day preceding the relevant interest payment date. The Borrower must
notify the Holder, in writing, not less than fifteen trading days of its
intention to pay interest with shares of Common Stock otherwise such payment
must be made in cash. The Interest Shares must be delivered not later than two
trading days after the date a cash interest payment would otherwise be payable.

2.2.3. Default Rate. Interest payable under the Term Loan at the Default Rate
shall be payable from time to time on demand of the Lender

2.2.4. Miscellaneous. Interest on all Loans shall be calculated on the basis of
a 360-day year and the actual number of days elapsed. Principal and interest on
all Loans and payments on all other Obligations shall be payable at the Lender’s
offices as designated on the signature page hereto in lawful money of the United
States of America in immediately available funds without set-off, deduction or
counterclaim. Upon assignment of the interest of any Lender in the Term Loan,
Borrower shall instead make its payment pursuant to the assignee’s instructions
upon receipt of written notice thereof

2.3. Limitation on Interest. All agreements between Borrower and Lender are
hereby expressly limited so that in no contingency or event whatsoever, whether
by reason of acceleration of maturity of the indebtedness evidenced hereby or
otherwise, shall the amount paid or agreed to be paid to Lender for the use or
the forbearance of the indebtedness evidenced hereby exceed the maximum
permissible under applicable law. As used herein, the term “applicable law”
shall mean the law in effect as of the date hereof, provided, however that in
the event there is a change in the law which results in a higher permissible
rate of interest, then this Agreement shall be governed by such new law as of
its effective date. In this regard, it is expressly agreed that it is the intent
of Borrower and Lender in the execution, delivery and acceptance of the Notes to
contract in strict compliance with the laws of the State of New York and any
other applicable state from time to time in effect. If, under or from any
circumstances whatsoever, fulfillment of any provision hereof or of any of the
Loan Documents at the time of performance of such provision shall be due, shall
involve transcending the limit of such validity prescribed by applicable law,
then the obligation to be fulfilled shall automatically be reduced to the limits
of such validity, and if under or from circumstances whatsoever Lender should
ever receive as interest an amount which would exceed the then highest lawful
rate, such amount which would be excessive interest shall be applied to the
reduction of the principal balance evidenced hereby and not to the payment of
interest. This provision shall control every other provision of all agreements
between Borrower and Lender.

2.4. Fees. Borrower agrees to pay all fees as set forth in the Subscription
Agreement.

2.5. Late Charges. If the entire amount of any required principal, interest or
other payment hereunder is not paid in full within ten (10) days after the same
is due, Borrower shall pay to the Lender a late fee equal to five percent
(5%) of the required payment.

2.6. Default Rate. Without limitation on Lender’s other rights and remedies,
upon the earliest to occur of an Event of Default (as provided in Section 12),
or the Term Loan Maturity Date, the unpaid principal of all Obligations shall,
at the option of the Lender, bear interest at a rate per annum equal to eighteen
percent (18%) (the “Default Rate”).

 

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2.7. Modified Following Business Day Convention. The term “Modified Following
Business Day Convention” means the convention for adjusting any relevant date if
it would not otherwise fall on a day that is not a Business Day. All dates
specified for payments to be made under this Agreement shall be subject to the
Modified Following Business Day Convention. The following terms, when used in
conjunction with the term “Modified Following Business Day Convention” and a
date shall mean that an adjustment will be made if that date would otherwise
fall on a day that is not a Business Day so that the date will be the first
following day that is a Business Day. A “Business Day” means, in respect of any
date that is specified in this Agreement to be subject to adjustment in
accordance with applicable Business Day Convention, a day on which commercial
Lenders settle payments in New York City, NY.

3. Grant of Security Interest.

3.1. Grant. As security for the prompt performance, observance and payment in
full of all Obligations, Borrower hereby grants to Lender a continuing first
priority (other than Permitted Liens), perfected security interest in and lien
on and assigns, transfers, sets over and pledges to the Lender all property of
Borrower, whether now owned by Borrower or hereafter acquired or existing, and
wherever located (collectively, the “Collateral”), including without limitation:

 

  (a) all Accounts;

 

  (b) all Inventory;

 

  (c) all Equipment;

 

  (d) all General Intangibles;

 

  (e) all Investment Property;

 

  (f) all Instruments and Documents;

 

  (g) all Related Collateral; and

 

  (h) all accessions to and additions to, substitutions for, replacements,
products; and

 

  (i) products and proceeds of any and all of the foregoing.

The term “Collateral” shall also refer to any other property in which Lender is
granted a Lien to secure any of the Obligations pursuant to an agreement
supplemental hereto or otherwise (whether or not such agreement makes reference
to this Agreement or the Obligations of Borrower hereunder).

 

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3.2. Perfection of Security Interest. Borrower authorizes Lender to file at any
time financing statements, continuation statements, and amendments thereto that
(i) either specifically describe the Collateral or describe the Collateral as
all assets of Borrower of the kind pledged hereunder, and (ii) contain any other
information required by the Code for the sufficiency of filing office acceptance
of any financing statement, continuation statement, or amendment, including
whether Borrower is an organization, the type of organization and any
organizational identification number issued to Borrower, if applicable. Any such
financing statements may be signed by Lender on behalf of Borrower, as provided
in the Code, and may be filed at any time in any jurisdiction whether or not
Revised Article 9 of the Code is then in effect in that jurisdiction. Borrower
shall from time to time endorse and deliver to Lender, at the request of Lender,
all Negotiable Collateral and other documents that Lender may reasonably
request, in form satisfactory to Lender, to perfect and continue perfected
Lender’s security interests in the Collateral and in order to fully consummate
all of the transactions contemplated under the Loan Documents. Borrower shall
have possession of the Collateral, except where expressly otherwise provided in
this Agreement or where Lender chooses to perfect its security interest by
possession in addition to the filing of a financing statement. Where Collateral
is in possession of a third party bailee, Borrower shall take such steps as
Lender reasonably requests for Lender to (i) obtain an acknowledgment, in form
and substance satisfactory to Lender, of the bailee that the bailee holds such
Collateral for the benefit of Lender, (ii) obtain “control” of any Collateral
consisting of investment property, deposit accounts, letter-of-credit rights or
electronic chattel paper (as such items and the term “control” are defined in
Revised Article 9 of the Code) by causing the securities intermediary or
depositary institution or issuing Lender to execute a control agreement in form
and substance satisfactory to Lender. Borrower will not create any chattel paper
without placing a legend on the chattel paper acceptable to Lender indicating
that Lender has a security interest in the chattel paper. Borrower from time to
time may deposit with Lender specific cash collateral to secure specific
Obligations; Borrower authorizes Lender to hold such specific balances in pledge
and to decline to honor any drafts thereon or any request by Borrower or any
other Person to pay or otherwise transfer any part of such balances for so long
as the specific Obligations are outstanding.

3.3. Right to Inspect. Lender (through any of its officers, employees, or
agents) shall have the right, upon reasonable prior notice, from time to time
during Borrower’s usual business hours and without interrupting the Borrower’s
business, but no more than twice a year (unless an Event of Default has occurred
and is continuing), to inspect Borrower’s Books and to make copies thereof and
to check, test, and appraise the Collateral in order to verify Borrower’s
financial condition or the amount, condition of, or any other matter relating
to, the Collateral.

3.4. Pledge of Collateral. Borrower hereby pledges, assigns and grants to Lender
a security interest in all the Shares, together with all proceeds and
substitutions thereof, all cash, stock and other moneys and property paid
thereon, all rights to subscribe for securities declared or granted in
connection therewith, and all other cash and noncash proceeds of the foregoing,
as security for the performance of the Obligations. On the Closing Date, the
certificate or certificates for the Shares will be delivered to Lender,
accompanied by an instrument of assignment duly executed in blank by Borrower.
To the extent required by the terms and conditions governing the Shares,
Borrower shall cause the books of each entity whose Shares are

 

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part of the Collateral and any transfer agent to reflect the pledge of the
Shares. Upon the occurrence of an Event of Default hereunder, Lender may effect
the transfer of any securities included in the Collateral (including but not
limited to the Shares) into the name of Lender and cause new certificates
representing such securities to be issued in the name of Lender or its
transferee. Borrower will execute and deliver such documents, and take or cause
to be taken such actions, as Lender may reasonably request to perfect or
continue the perfection of Lender’s security interest in the Shares. Unless an
Event of Default shall have occurred and be continuing, Borrower shall be
entitled to exercise any voting rights with respect to the Shares and to give
consents, waivers and ratifications in respect thereof, provided that no vote
shall be cast or consent, waiver or ratification given or action taken which
would be inconsistent with any of the terms of this Agreement or which would
constitute or create any violation of any of such terms. All such rights to vote
and give consents, waivers and ratifications shall terminate upon the occurrence
and continuance of an Event of Default.

3.5. Termination of Financing Statement. Upon indefeasible payment in full and
satisfaction by Borrower of all of the Obligations, Lender shall, upon written
request from Borrower, promptly file a termination statement with respect to the
Collateral, and provide written evidence of the same to Borrower.

4. Representations and Warranties. Borrower represents and warrants for itself
and for each Subsidiary as follows:

4. 1. Organization, Existence, Good Standing. The Borrower and each Subsidiary
(i) is a corporation duly organized, validly existing and in good standing under
the laws of the state in which it is incorporated, (ii) has obtained all
material licenses, permits, approvals and consents and has filed all
registrations necessary for the lawful operation of its business, (iii) has the
power and authority and the legal right to own, lease and operate its property
and to conduct the business in which it is currently engaged, and (iv) is duly
qualified to do business and is in good standing as a foreign entity in each
other jurisdiction where its ownership, lease or operation of property or the
conduct of its business requires such qualification, except where the failure to
be so qualified would not have a Material Adverse Effect. Schedule 4.1 lists all
states and other locations where each of Borrower and each Subsidiary is
qualified or authorized to do business.

4.2. Consents. No consent, permit, license, approval or authorization of, or
registration, declaration or filing with or notice to, any governmental
authority, bureau or agency or any other Person is required in connection with
the execution, delivery or performance by Borrower or any Subsidiary, or the
validity or enforceability against Borrower or any Subsidiary, of any Loan
Document to which it is a party, except for any necessary filing or recordation
of or with respect to the Lender’s security interest in the Collateral.

4.3. No Legal Bar. The execution, delivery and performance by Borrower of the
Loan Documents, and each agreement, certificate, document, instrument or other
paper delivered pursuant thereto, to which Borrower or any Subsidiary is a
party, does not in any material respect conflict with or cause a breach of any
provision of any existing law, rule or regulation, order, judgment, award or
decree of any court, arbitrator or governmental authority, bureau or agency, or
of the Certificate of Incorporation or By-Laws of, or any security issued by
Borrower or any Subsidiary or of any mortgage, deed of trust, indenture, lease,
contract or other agreement or

 

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undertaking to which Borrower or any Subsidiary is a party (other than the
Subordinated Debt) or by which any of its properties may be bound, and will not
result in the creation or imposition of any Lien on Borrower’s or any
Subsidiary’s revenues or properties, except in favor of Lender.

4.4. Compliance with Charter and Agreements. Neither Borrower nor any Subsidiary
(i) is subject to any charter, organizational or other legal restriction, or any
judgment, award, decree, order, governmental rule or regulation or contractual
restriction which could have a Material Adverse Effect, and (ii) each of
Borrower and each Subsidiary is in compliance with its Certificate of
Incorporation and By-Laws and all contractual requirements of a material nature
by which it or any of its properties may be bound.

4.5. Negative Pledges. Neither Borrower nor any of its Subsidiaries is a party
to or bound by any agreement, indenture, or other instrument which prohibits the
creation, incidence or allowance to exist of any mortgage, deed of trust,
pledge, lien, security interest or other encumbrance or conveyance upon any of
Borrower’s or any Subsidiary’s property except for liens with respect to the
Subordinated Debt.

4.6. Title to Property. Borrower and each Subsidiary has good and marketable
title to, or valid leasehold interests in, all of the assets reflected in the
balance sheet (referred to below), including, without limitation, the
Collateral, and all such assets are subject to no Liens except (i) in favor of
Lender, (ii) in favor of Subordinated Lender, or (iii) Permitted Liens.

4.7. Collateral. Borrower has rights in or the power to transfer the Collateral,
and its title to the Collateral is free and clear of Liens, adverse claims, and
restrictions on transfer or pledge except for Permitted Liens. All Collateral is
located solely in the Collateral States. The Accounts are bona fide existing
obligations. The property or services giving rise to such Accounts has been
delivered or rendered to the account debtor or its agent for immediate shipment
to and unconditional acceptance by the account debtor. Borrower has not received
notice of actual or imminent insolvency proceeding of any account debtor. All
Inventory is in all material respects of good and merchantable quality, free
from all material defects, except for Inventory for which adequate reserves have
been made. Except as set forth in Schedule 4.7, none of the Collateral
constituting deposit accounts or Investment Property is maintained or invested
with a Person other than Lender or Lender’s Affiliates.

4.8. Intellectual Property Collateral. Borrower is the sole owner of the
Intellectual Property Collateral, except for licenses granted by Borrower to its
customers in the ordinary course of business. To the best of Borrower’s
knowledge, each of the Copyrights, Trademarks and Patents is valid and
enforceable, and no part of the Intellectual Property Collateral has been judged
invalid or unenforceable, in whole or in part, and no claim has been made to
Borrower that any part of the Intellectual Property Collateral violates the
rights of any third party except to the extent such claim would not reasonably
be expected to cause a Material Adverse Effect. Borrower’s rights as a licensee
of intellectual property do not give rise to more than 10% of its gross revenue
in any given month, including without limitation revenue derived from the sale,
licensing, rendering or disposition of any product or service.

 

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4.9. Books and Records. All of Borrower’s charter documents have been duly filed
and are in proper order. All of Borrower’s books and records, including without
limitation, minute books and books of account, are accurate and up-to-date.

4.10. Power and Authority; Due Execution. Borrower has (i) full power, authority
and legal right to execute, deliver and perform its obligations under the Loan
Documents to which it is a party and to borrow hereunder, (ii) taken all
necessary actions to authorize the execution, delivery and performance by
Borrower of each Loan Document to which such Borrower is a party and to
authorize its borrowings hereunder, and (iii) caused to be duly executed and
delivered on behalf of such Borrower each of the Loan Documents to which
Borrower is a party.

4.11. Legal, Valid, Binding Obligation . Each of the Loan Documents and each
agreement, certificate, document, instrument or other paper to which Borrower is
a party, constitute the legal, valid, and binding obligation of Borrower,
enforceable against Borrower in accordance with their terms, subject to
limitations as to enforceability which might result from bankruptcy, insolvency,
moratorium and other similar laws affecting creditors’ rights generally and
subject to limitations on the availability of equitable remedies.

4.12. Name. Borrower’s exact legal name is as set forth at the end of this
Agreement and Borrower has not used or been known by or is using any fictitious
or other name or trade name or style.

4.13. Subsidiaries and Investments. Except as set forth on Schedule 4.13 hereto,
Borrower has no Subsidiaries or Investments in any other Person. Schedule 4.13
accurately sets forth the authorized capitalization and the number of issued and
outstanding membership interests and/or shares of stock for the Borrower and
each Subsidiary of Borrower. Borrower has full power and authority to create a
first lien on the Shares and no disability or contractual obligation exists that
would prohibit Borrower from pledging the Shares pursuant to this Agreement.
Except as disclosed in Borrower’s 10-K as of the Closing Date, and except with
respect to restrictions or transfers affected by the dissolution of subsidiaries
into Borrower, to Borrower’s knowledge, there are no subscriptions, warrants,
rights of first refusal or other restrictions on transfer relative to, or
options exercisable with respect to the Shares. The Shares have been and will be
duly authorized and validly issued, and are fully paid and non-assessable. To
Borrower’s knowledge, the Shares are not the subject of any present or
threatened suit, action, arbitration, administrative or other proceeding, and
Borrower knows of no reasonable grounds for the institution of any such
proceedings.

4.14. Financial Statements, No Change. All consolidated and consolidating
financial statements related to Borrower and any Subsidiary that are delivered
by Borrower to Lender fairly present in all material respects Borrower’s
consolidated and consolidating financial condition as of the date thereof and
Borrower’s consolidated and consolidating results of operations for the period
then ended. There has not been a material adverse change in the consolidated or
in the consolidating financial condition of Borrower since the date of the most
recent of such financial statements submitted to Lender.

4.15. Taxes. Borrower has made or filed all tax returns, reports and
declarations relating to any material tax liability required by any jurisdiction
to which it is subject (any tax liability

 

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which may result in a Lien on any Collateral, other than a Permitted Lien, being
hereby deemed material); has paid all taxes shown or determined to be due
thereon except those being contested in good faith; and has made adequate
provision for the payment of all taxes so contested. The federal tax
identification number of Borrower is set forth on Schedule 4.15 hereto.

4.16. Litigation. There is no action, suit, proceeding or investigation pending
before or by any court or other governmental authority or, to Borrower’s
knowledge, threatened against or affecting (i) the Loan Documents or the
transactions contemplated herein or therein or (ii) the Borrower or any
Subsidiary or any of Borrower’s or any Subsidiary’s assets which, if determined
adversely to Borrower or such Subsidiary, would have a Material Adverse Effect.

4.17. Chief Executive Office. Borrower’s chief executive office and the office
where it keeps its books and records and records concerning its Accounts and
other places of business or locations where it keeps, maintains, processes or
stores its assets are set forth on Schedule 4.17 hereto. Borrower has no other
place of business or place where assets are kept, maintained, processed or
stored.

4.18. ERISA. All Plans of Borrower are set forth on Schedule 4.18 hereto.
Borrower, all Commonly Controlled Entities, and all their Plans are and have
been in substantial compliance with the provisions of ERISA, the qualification
requirements of IRC Section 401(a), and the published interpretations
thereunder. No notice of intent to terminate a Plan has been filed under
Section 4041 of ERISA, nor has any Plan been terminated under Section 4041(e) of
ERISA which resulted in substantial liability to Borrower or any of its Commonly
Controlled Entities. The PBGC has not instituted proceedings to terminate, or
appointed a trustee to administer, a Plan and no event has occurred or condition
exists which might constitute grounds under Section 4042 of ERISA for the
termination of, or the appointment of a trustee to administer, any Plan. Neither
Borrower nor any Commonly Controlled Entities would be liable for any amount
pursuant to Sections 4063 or 4064 of ERISA if all Plans terminated as of the
most recent valuation dates of such Plans. Neither Borrower nor any Commonly
Controlled Entities has: withdrawn from a multi-employer Plan during a plan year
for which it was a substantial employer, as defined in Section 4001(a)(2) of
ERISA; or failed to make a payment to a Plan required under Section 302(f)(1) of
ERISA such that security would have to be provided pursuant to Section 307 of
ERISA. No lien upon the assets of Borrower has arisen with respect to a Plan. To
the best knowledge of Borrower, no prohibited transaction or Reportable Event
has occurred with respect to a Plan. Borrower and each Commonly Controlled
Entity have made all contributions required to be made by them to any Plan or
multi-employer Plan when due. There is no accumulated funding deficiency in any
Plan, whether or not waived.

4.19. No Default. Neither Borrower nor any of Borrower’s Subsidiaries is in
default in any respect in the payment or performance of any of its Indebtedness
for Borrowed Money or under any mortgage, deed of trust, indenture, lease,
contract or other agreement or undertaking to which it is a party or by which it
or any of its property may be bound or affected and no Default or Event of
Default has occurred and is continuing other than defaults or events of default
existing as of the date hereof with respect to the Subordinated Debt, such as
are listed on Schedule 4.19 hereto. Neither Borrower nor any of Borrower’s
Subsidiaries is in default under

 

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any order, award or decree of any court, arbitrator or governmental authority
binding upon or affecting it or by which any of its property may be bound or
affected, and no such order, award or decree has or could reasonably be expected
to have a Material Adverse Effect.

4.20. No Burdensome Restrictions. Neither Borrower nor any of Borrower’s
Subsidiaries is a party to or bound by any contract, agreement or instrument or
subject to any corporate restriction (including any restriction set forth in its
Certificate of Incorporation or By-Laws) or order, award or decree of any court,
arbitrator or governmental authority that would have a Material Adverse Effect.

4.21. Regulation U; Etc. Neither Borrower nor any of Borrower’s Subsidiaries is
engaged or will engage, principally or as one of its important activities, in
the business of extending credit for the purpose of “purchasing” or “carrying”
any “margin stock” (within the respective meanings of each of the quoted terms
under Regulations U, T, or X of the Board of Governors of the Federal Reserve
System and any successors thereto as now and from time to time hereafter in
effect), and no part of the proceeds of any Loan hereunder will be used for
“purchasing” or “carrying” any “margin stock” as so defined or for any purpose
which violates, or which would be inconsistent with, the provisions of
Regulation U or Regulation G of the Federal Reserve Board.

4.22. Investment Company Act, Etc. Borrower is not an “investment company”
registered or required to be registered under the Investment Company Act of
1940, or a company “Controlled” (within the meaning of such Investment Company
Act) by such an “investment company”. Borrower is not subject to regulation
under the Federal Power Act or any other federal or state statute or regulation
limiting Borrower’s ability to borrow money.

4.23. Indebtedness. Neither Borrower nor any of Borrower’s Subsidiaries has
Indebtedness of any type except Indebtedness incurred under this Agreement and
that which is permitted under Section 8.2 of this Agreement.

4.24. Compliance with Laws. Borrower is in compliance in all material respects
with all laws, rules and regulations, orders of court or other governmental
bodies, applicable to it including, without limitation, all environmental,
health and safety statutes and regulations and specifically the Federal Resource
Conservation and Recovery Act, the Federal Comprehensive Environmental Response,
Compensation and Liability Act, the Federal Clean Water Act, the Clean Air Act,
the requirements and regulations of the Nuclear Regulatory Commission, the
Federal Food, Drug and Cosmetic Act, and the Federal Occupational Safety and
Health Act. Borrower is not subject to any judicial or administrative
proceedings alleging the violation of any applicable law or regulation.
Borrower, to the best of Borrower’s knowledge, is not the subject of any
federal, state or local investigation regarding, among other matters, the
release of any hazardous or toxic chemical, material, or substance or oil into
the environment, the results of which could have a Material Adverse Effect.
Borrower has not filed any notice under any applicable law indicating past or
present treatment, storage, disposal, generation, transportation or reporting a
spill or release into the environment of any hazardous or toxic chemical,
material or substance or oil into the environment which could reasonably be
expected to have a Material

 

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Adverse Effect on Borrower’s financial condition business, prospects or the
value of the Collateral. Neither Borrower nor, to the knowledge of Borrower, any
other owner of any real property owned or used by or on behalf of Borrower or
such other owner, has placed or disposed of, used, generated or transported any
hazardous or toxic chemical, material or substance or oil, in violation of any
applicable law or regulation, upon or over any of Borrower’s real property and
Borrower or such other owner, as the case may be, has no knowledge of such
hazardous or toxic chemical, material or substance or oil on such real property.

4.25. Contingent Liabilities. Except those in favor of the Lender, neither
Borrower nor any Subsidiary has any Contingent Liabilities.

4.26. Bonds, Indemnities. Neither Borrower nor any Subsidiary obligated under
any surety or similar bond, indemnity or other contract issued nor has Borrower
or any Subsidiary entered into or any agreement to assure payment, performance
or completion of performance of any undertaking or obligation of any Person.

4.27. Leases. Schedule 4.27 hereto is a complete listing of all capital leases
and operating leases of Borrower and its Subsidiaries. All such leases are in
full force and effect and no material default has occurred thereunder.

4.28. Labor Contracts/Relations. Neither Borrower nor any Subsidiary is a party
to any collective bargaining agreement. There are no material grievances,
disputes or controversies with any union or any other organization of Borrower’s
or any Subsidiary’s employees, or threats of strikes, work stoppages or any
asserted pending demands for collective bargaining by any union or organization.

4.29. Trade Relations. There exists no actual or threatened termination,
cancellation or limitation of, or any modification or change in, the business
relationship between Borrower or any Subsidiary and any customer or any group of
customers whose purchases individually or in the aggregate are material to the
business of Borrower or any Subsidiary or with any material supplier, and there
exists no present condition or state of facts or circumstances which would
materially and adversely affect Borrower or any Subsidiary or prevent Borrower
or any Subsidiary from conducting such business after the consummation of the
transaction contemplated by this Agreement in substantially the same manner in
which it has heretofore been conducted.

4.30. Solvency

After giving effect to the Term Loan hereunder, the creation of the interest of
Lender and the other transactions contemplated hereunder, (a) Borrower shall be
solvent, shall be able to pay its debts as they mature and has (and has reason
to believe it will continue to have) sufficient capital (and not unreasonably
small capital) to carry on its business and all businesses in which it is about
to engage(b) the assets and properties of Borrower at a fair valuation and at
their present fair salable value as part of a business going concern are, and
will be, greater than the Indebtedness of Borrower, and including subordinated
and contingent liabilities computed at the amount which, to the best of
Borrower’s knowledge, represents an amount which can reasonably be expected to
become an actual or matured liability; and (c) Borrower shall not be left with
unreasonably small capital.

 

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4.31. Real Property. Borrower owns no real property.

4.32 Inbound Licenses. Borrower is not a party to, nor is bound by, any license
or other agreement that is material to the Borrower’s business that prohibits or
otherwise restricts Borrower from granting a security interest in Borrower’s
interest in such license or agreement or any other property.

4.33. Government Contracts which are to be considered as Collateral. Schedule
4.33 sets forth a true and complete list of all non-classified government
contracts with a value in excess of $1,000,000 which shall constitute Collateral
(“Government Contracts”). All Government Contracts are the legal, valid and
binding obligation of both Borrower and, subject to the terms thereof and
applicable law, the governmental agency or agencies which constitute the
purchasers of goods and services thereunder. The assignment of the Government
Contracts as undertaken by Borrower in connection with the Closing complies with
the Assignment of Claims Act of 1940 (“Claims Act”) and upon assignment, Lender
shall have a valid perfected first priority security interest in Borrower’s
right to receive payments under the Government Contracts. Other than Lender,
there is no other party to which the Government Contracts have been assigned
other than Square 1 Bank, whose assignments shall be terminated in connection
with the payoff as of the date hereof of the Borrower’s obligations thereto.
Borrower has received no notice nor has any other knowledge that it is in
default of its obligations under the Government Contracts.

4.34. No Trigger of Antidilution Protection. Nothing contained herein or in the
Subscription Documents shall trigger any antidilution or similar protection
rights by any third parties which have not been waived other than with respect
to existing warrants outstanding to Pequot for which a settlement has been
reached pursuant to that certain Settlement Agreement and Mutual Release dated
December 29, 2006 between Borrower and Pequot.

4.35. Returns. In the 24 month period directly preceding the Closing Date, there
has not been outstanding at any one time in the aggregate returns, recoveries,
disputes or claims with respect to inventory involving more than $10,000.

4.36. Accuracy of Information. All information furnished by or on behalf of
Borrower in writing to Lender in connection with the Loan Documents and the
transactions contemplated hereunder is true and correct in all material respects
on the date of which such information is dated or certified and does not omit
any material fact necessary in order to make such information not misleading. No
event or circumstance has occurred which has or could reasonably be expected to
have a Material Adverse Effect, which has not been fully and accurately
disclosed to Lender in writing.

5. Borrower’s Reports and Notices. Borrower will deliver to Lender:

5.1. Deliveries. Borrower shall deliver to Lender: (i) as soon as available, but
in any event within 30 days after the end of each calendar month, a company
prepared consolidated and consolidating balance sheet and income statement
covering Borrower’s operations during such period, in a form reasonably
acceptable to Lender and certified by a Responsible Officer; (ii) as

 

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soon as available, but in any event not later than the date on which the
Borrower is obligated to file its Form 10-K with the Securities and Exchange
Commission, audited consolidated and consolidating financial statements of
Borrower prepared in accordance with GAAP, consistently applied, together with
an opinion which is unqualified or otherwise consented to in writing by Lender
on such financial statements of an independent certified public accounting firm
reasonably acceptable to Lender; (iii) if applicable, copies of all statements,
reports and notices sent or made available generally by Borrower to its security
holders or to any holders of Subordinated Debt and all reports on Forms 10-K and
10-Q filed with the Securities and Exchange Commission; (iv) promptly upon
receipt of notice thereof, a report of any legal actions pending or threatened
against Borrower or any Subsidiary that could result in damages or costs to
Borrower or any Subsidiary of $100,000 or more; (v) promptly upon receipt, each
management letter prepared by Borrower’s independent certified public accounting
firm regarding Borrower’s management control systems; (vi) such budgets, sales
projections, operating plans or other financial information generally prepared
by Borrower in the ordinary course of business as Lender may reasonably request
from time to time; and (vii) within 30 days of the last day of each fiscal
quarter in which an application is filed or the status of any outstanding
applications or registrations change, a report signed by Borrower, in form
reasonably acceptable to Lender, listing any applications or registrations that
Borrower has made or filed in respect of any Patents, Copyrights or Trademarks
and the status of any outstanding applications or registrations, as well as any
material change in Borrower’s Intellectual Property Collateral, including but
not limited to any subsequent ownership right of Borrower in or to any
Trademark, Patent or Copyright not specified in Exhibits A, B, and C of any
Intellectual Property Security Agreement delivered to Lender by Borrower in
connection with this Agreement.

(a) Within 30 days after the last day of each month, Borrower shall deliver to
Lender with the monthly financial statements a Compliance Certificate certified
as of the last day of the applicable month and signed by a Responsible Officer
in substantially the form of Exhibit E hereto.

(b) As soon as possible and in any event within 3 Business Days after becoming
aware of the occurrence or existence of an Event of Default hereunder, a written
statement of a Responsible Officer setting forth details of the Event of
Default, and the action which Borrower has taken or proposes to take with
respect thereto.

(c) Lender shall have a right from time to time hereafter to audit Borrower’s
Accounts and appraise Collateral at Borrower’s expense, provided that such
audits will be conducted no more often than every 6 months unless an Event of
Default has occurred and is continuing.

Borrower may deliver to Lender on an electronic basis any certificates, reports
or information required pursuant to this Section 5.2, and Lender shall be
entitled to rely on the information contained in the electronic files, provided
that Lender in good faith believes that the files were delivered by a
Responsible Officer. If Borrower delivers this information electronically, it
shall also deliver to Lender by U.S. Mail, reputable overnight courier service,
hand delivery, facsimile or .pdf file within 5 Business Days of submission of
the unsigned electronic copy the certification of monthly financial statements,
the intellectual property report, the Borrowing Base Certificate and the
Compliance Certificate, each bearing the physical signature of the Responsible
Officer.

 

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5.3. Additional Information. Promptly after reasonable notice thereof, such
other information concerning Borrower, the Collateral, the operation of
Borrower’s business or its financial condition and copies of such governmental
filings and other documentation as Lender may from time to time reasonably
request;

5.4. Notices. Immediately, notice of:

(a) any Default or Event of Default;

(b) the institution or commencement of any action, suit, proceeding or
investigation against or affecting Borrower or any of its assets which, if
determined adversely to Borrower, could result in judgment in excess of
$100,000;

(c) any judgment, award, decree, order or determination relating thereto in an
amount in excess of $100,000;

(d) the imposition or creation of any Lien against any asset of Borrower except
in favor of Lender or Permitted Liens;

(e) any capital or operating lease to which Borrower becomes a party, together
with a copy of each such lease, in excess of $100,000;

(f) any Reportable Event, together with a statement of the Borrower’s President
or Chief Financial Officer as to the details thereof, and a copy of its notice
thereof to the PBGC;

(g) any known release or potential release or threat of release of hazardous or
toxic chemicals, materials or substances or oil from, on or onto any site owned
or used by Borrower or the incurrence of any expense or loss in connection
therewith or upon Borrower’s obtaining knowledge of any the incurrence of any
expense or loss by any governmental authority in connection with the containment
or removal of any hazardous or toxic chemical, material or substance or oil for
which expense or loss Borrower may be liable or potentially responsible; and

(h) any loss or destruction of Collateral or other assets, whether or not
covered by insurance, if the value of such loss or destruction or of such
Collateral affected exceeds $100,000.

5.5. ERISA Notices. Immediately after receipt or filing, a copy of (i) any
notice Borrower may receive from the PBGC relating to the PBGC’s intention to
terminate or appoint a trustee to administer any Plan and (ii) any report or
notice relating to any Reportable Event which Borrower may file under ERISA with
the PBGC, the Internal Revenue Service or the United States Department of Labor;
and

 

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5.6. Taxes. If requested by Lender, within ten (10) days after the accrual in
accordance with applicable law of Borrower’s obligation to make deposits for
F.I.C.A. and withholding taxes, evidence satisfactory to Lender that such
deposits have been made as required.

6. Lender’s Reports. Periodically, Lender will render to Borrower statements of
Borrower’s loan account(s) with Lender hereunder, showing applicable credits and
debits. Absent manifest error, each statement shall be considered correct and to
have been accepted by and conclusively binding upon Borrower as an account
stated in respect of all charges, debits and credits of whatsoever nature
contained therein under this Agreement, and the closing balance shown therein,
unless Borrower notifies Lender in writing of any discrepancy within thirty
(30) days from the date of receipt of any such statement.

7. Borrower’s Affirmative Covenants. Borrower agrees that it will, on behalf of
itself and each Subsidiary, at all times that any amount is unpaid on any Loan
or any other Obligation or any commitment of the Lender to make Loans is in
effect:

7.1. Legal Existence, Compliance with Laws. Preserve, renew and keep in full
force and effect its legal existence and rights and franchises with respect
thereto and maintain in full force and effect all permits, licenses, trademarks,
tradenames, approvals, authorizations, leases and contracts necessary to carry
on its business as presently or proposed to be conducted. Borrower shall
preserve, renew and keep in full force and effect its qualification to do
business in good standing in every state in which such qualification may be
necessary by reason of the nature or location of its assets or operations except
where the failure to so qualify would not have a Material Adverse Effect.

7.2. Insurance. (a) keep its properties insured against fire and other hazards
(so called “All Risk” coverage) in amounts and with companies reasonably
satisfactory to Lender to the same extent and covering such risks as is
customary in the same or a similar business, but in no event in an amount less
than the full insurable value thereof, which policies shall name the Lender as
additional insured and loss payee as its interest may appear, (b) maintain
public liability coverage against claims for personal injuries or death and
(c) maintain all worker’s compensation, employment or similar insurance as may
be required by applicable law. Such All Risk property and public liability
insurance coverage shall provide for a minimum of ten (10) days written
cancellation notice to the Lender (except that, if the basis for cancellation is
non-payment of premiums, the minimum written cancellation notice may be ten
(10) days). Borrower agrees to deliver copies of all of the aforesaid insurance
policies to the Lender. In the event of any loss or damage to any of Borrower’s
assets, including any Collateral securing the Loan, Borrower shall give
immediate written notice to the Lender and to Borrower’s insurers of such loss
or damage and shall promptly file proofs of loss with said insurers.

7.3. Compliance with Contracts and Laws. Comply with its Certificate of
Incorporation and By-Laws, all material contractual requirements by which it or
any of its properties may be bound and all applicable laws, rules, regulations,
licenses, permits, approvals and orders of any federal, state or local
governmental authority applicable to it (including, without limitation, ERISA
and those relating to environmental protection and health and safety) other than
contractual requirements or laws, rules or regulations the failure to comply
with which cannot reasonably be expected to have a Material Adverse Effect.

 

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7.4. Business. Continue to engage in its business as now conducted in all
material respects, and maintain and preserve all of its properties reasonably
necessary for the conduct thereof in good working order and condition, ordinary
wear and tear excepted.

7.5. Taxes. Borrower shall make, and cause each Subsidiary to make, due and
timely payment or deposit of all material federal, state, and local taxes,
assessments, or contributions required of it by law, including, but not limited
to, those laws concerning income taxes, F.I.C.A., F.U.T.A. and state disability,
and will execute and deliver to Lender, on demand, proof satisfactory to Lender
indicating that Borrower or a Subsidiary has made such payments or deposits and
any appropriate certificates attesting to the payment or deposit thereof;
provided that Borrower or a Subsidiary need not make any payment if the amount
or validity of such payment is contested in good faith by appropriate
proceedings and is reserved against (to the extent required by GAAP) by
Borrower.

7.6. Accounts Covenants.

(a) Notify Lender immediately of: (i) any material delay in Borrower’s
performance of any of its obligations to any account debtor or the assertion of
any material claims, offsets, defenses or counterclaims by any account debtor,
or any material disputes with account debtors, or any settlement adjustment or
compromise thereof, and (ii) all material adverse information known to Borrower
relating to the financial condition of any account debtor. No credit, discount,
allowance or extension or agreement for any of the foregoing shall be granted to
any account debtor without Lender’s consent, except in the ordinary course of
Borrower’s business in accordance with practices and policies previously
disclosed in writing to Lender. So long as no Event of Default exists or has
occurred and is continuing, Borrower shall settle, adjust or compromise any
claim, offset, counterclaim or dispute with any account debtor. At any time that
an Event of Default exists or has occurred and is continuing, Lender shall, at
its option, have the exclusive right to settle, adjust or compromise any claim,
offset, counterclaim or dispute with account debtors or grant any credits,
discounts or allowances.

(b) Promptly report to Lender any return of Inventory by an account debtor
having a sales price in excess of $100,000. In the event any account debtor
returns Inventory when an Event of Default exists or has occurred and is
continuing, Borrower shall, upon Lender’s request, (i) hold the returned
Inventory in trust for Lender, (ii) segregate all returned Inventory from all of
its other property, (iii) dispose of the returned Inventory solely according to
Lender’s instructions, and (iv) not issue any credits, discounts or allowances
with respect thereto without Lender’s prior written consent.

7.7. Inventory Covenants. With respect to the Inventory: (a) Borrower shall at
all times maintain inventory records reasonably satisfactory to Lender, keeping
correct and accurate records itemizing and describing the kind, type, quality
and quantity of Inventory, Borrower’s cost therefor and daily withdrawals
therefrom and additions thereto; (b) Borrower shall conduct a physical count of
the Inventory at any time or times as Lender may request after the occurrence of
and during the continuance of an Event of Default, and promptly following such
physical

 

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inventory shall supply Lender with a report in the form and with such
specificity as may be reasonably satisfactory to Lender concerning such physical
count; (c) Borrower shall not remove any Inventory from the locations set forth
or permitted herein, without the prior written consent of Lender, except for
sales of Inventory in the ordinary course of Borrower’s business and except to
move Inventory directly from one location set forth or permitted herein to
another such location; (d) upon Lender’s request upon the occurrence and during
the continuance of an Event of Default, Borrower shall, at its expense, deliver
or cause to be delivered to Lender written reports or appraisals as to the
Inventory in form, scope and methodology acceptable to Lender and by an
appraiser acceptable to Lender, addressed to Lender or upon which Lender is
expressly permitted to rely; (e) Borrower shall produce, use, store and maintain
the Inventory, with all reasonable care and caution and in accordance with
applicable standards of any insurance and in conformity with applicable laws
(including, but not limited to, the requirements of the Federal Fair Labor
Standards Act of 1938, as amended and all rules, regulations and orders related
thereto); (f) Borrower assumes all responsibility and liability arising from or
relating to the production, use, sale or other disposition of the Inventory;
(g) other than in the ordinary course of business as disclosed to Lender by
Borrower from time to time, Borrower shall not sell Inventory to any customer on
approval, or any other basis which entitles the customer to return or may
obligate Borrower to repurchase such Inventory; (h) Borrower shall keep the
Inventory in good and marketable condition; and (i) Borrower shall not, without
prior written notice to Lender, acquire or accept any Inventory on consignment
or approval. Returns and allowances, if any, as between Borrower and its account
debtors shall be on the same basis and in accordance with the usual customary
practices of Borrower, as they exist on the Closing Date. Borrower shall
promptly notify Lender of all returns, recoveries, disputes or claims involving
more than $100,000.

7.8. Equipment Covenants. With respect to the Equipment: (a) upon Lender’s
request, Borrower shall, at its expense, at any time or times as Lender may
request on or after an Event of Default, deliver or cause to be delivered to
Lender written reports or appraisals as to the Equipment in form, scope and
methodology acceptable to Lender and by an appraiser acceptable to Lender;
(b) Borrower shall keep the Equipment in good order, repair, running and
marketable condition (ordinary wear and tear excepted); (c) Borrower shall use
the Equipment with all reasonable care and caution and in accordance with
applicable standards of any insurance and in conformity with all applicable
laws; (d) the Equipment is and shall be used in Borrower’s business and not for
personal, family, household or farming use; (e) Borrower shall not remove any
Equipment from the locations set forth or permitted herein, except to the extent
necessary to have any Equipment repaired or maintained in the ordinary course of
the business of Borrower or to move Equipment directly from one location set
forth or permitted herein to another such location and except for the movement
of motor vehicles used by or for the benefit of Borrower in the ordinary course
of business; (f) the Equipment is now and shall remain personal property and
Borrower shall not permit any of the Equipment to be or become a part of or
affixed to real property; and (g) Borrower assumes all responsibility and
liability arising from the use of the Equipment.

7.9. Registration of Intellectual Property Rights.

(a) Borrower shall register or cause to be registered on an expedited basis (to
the extent not already registered) with the United States Patent and Trademark
Office or the United

 

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States Copyright Office, as the case may be, those registrable intellectual
property rights now owned or hereafter developed or acquired by Borrower, to the
extent that Borrower, in its reasonable business judgment, deems it appropriate
to so protect such intellectual property rights.

(b) Borrower shall promptly give Lender written notice of any applications or
registrations of intellectual property rights filed with the United States
Patent and Trademark Office, including the date of such filing and the
registration or application numbers, if any.

(c) Borrower shall (i) give Lender not less than 30 days prior written notice of
the filing of any applications or registrations with the United States Copyright
Office, including the title of such intellectual property rights to be
registered, as such title will appear on such applications or registrations, and
the date such applications or registrations will be filed; (ii) prior to the
filing of any such applications or registrations, execute such documents as
Lender may reasonably request for Lender to maintain its perfection in such
intellectual property rights to be registered by Borrower; (iii) upon the
request of Lender, either deliver to Lender or file such documents
simultaneously with the filing of any such applications or registrations;
(iv) upon filing any such applications or registrations, promptly provide Lender
with a copy of such applications or registrations together with any exhibits,
evidence of the filing of any documents requested by Lender to be filed for
Lender to maintain the perfection and priority of its security interest in such
intellectual property rights, and the date of such filing.

(d) Borrower shall execute and deliver such additional instruments and documents
from time to time as Lender shall reasonably request to perfect and maintain the
perfection and priority of Lender’s security interest in the Intellectual
Property Collateral.

(e) Borrower shall (i) protect, defend and maintain the validity and
enforceability of the trade secrets, Trademarks, Patents and Copyrights,
(ii) use commercially reasonable efforts to detect infringements of the
Trademarks, Patents and Copyrights and promptly advise Lender in writing of
material infringements detected and (iii) not allow any material Trademarks,
Patents or Copyrights to be abandoned, forfeited or dedicated to the public
without the written consent of Lender, which shall not be unreasonably withheld.

(f) Lender may audit Borrower’s Intellectual Property Collateral to confirm
compliance with this Section 6.8, provided such audit may not occur more often
than twice per year, unless an Event of Default has occurred and is continuing.
Lender shall have the right, but not the obligation, to take, at Borrower’s sole
expense, any actions that Borrower is required under this Section 6.8 to take
but which Borrower fails to take, after 15 days’ notice to Borrower. Borrower
shall reimburse and indemnify Lender for all reasonable costs and reasonable
expenses incurred in the reasonable exercise of its rights under this
Section 7.9.

7.10. Consent of Inbound Licensors. Prior to entering into or becoming bound by
any material license or agreement, Borrower shall: (i) provide written notice to
Lender of the material terms of such license or agreement with a description of
its likely impact on Borrower’s business or financial condition; and (ii) in
good faith use commercially reasonable efforts to obtain the consent of, or
waiver by, any person whose consent or waiver is necessary for Borrower’s
interest in such licenses or contract rights to be deemed Collateral and for
Lender to have a security interest in it that might otherwise be restricted by
the terms of the applicable

 

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license or agreement, whether now existing or entered into in the future,
provided, however, that the failure to obtain any such consent or waiver shall
not constitute a default under this Agreement.

7.11. Creation/Acquisition of Subsidiaries. In the event Borrower or any
Subsidiary creates or acquires any material, domestic Subsidiary (each, a
“Material Subsidiary”), Borrower and such Subsidiary shall promptly notify
Lender of the creation or acquisition of such Material Subsidiary and take all
such action as may be reasonably required by Lender to cause such Material
Subsidiary to guarantee the Obligations of Borrower under the Loan Documents and
grant a continuing pledge and security interest in and to the collateral of such
Material Subsidiary and Borrower shall grant and pledge to Lender a perfected
security interest in the stock, units or other evidence of ownership of such
Material Subsidiary.

7.12. Use of Proceeds. Borrower agrees that it shall only use the net proceeds
of the Advances received by it for the purposes set forth on Schedule 7.12
hereto. Except as set forth on Schedule 7.12, the Advances may not and will not
be used for accrued and unpaid officer and director salaries, payment of
financing related debt, redemption of outstanding notes or equity instruments of
the Company, litigation related expenses or settlements, brokerage fees, nor
non-trade obligations. For so long as any Notes are outstanding, the Company
will not prepay any Indebtedness for Borrowed Money nor redeem any equity
instruments of the Company (other than in accordance with the terms of the
Company’s various equity incentive plans, upon a plan participant’s cessation of
service to the Company, which shall not exceed $100,000 in the aggregate).

7.13. Compliance with the Claims Act. For so long as the Obligations remain
outstanding, Borrower agrees to fully comply with the requirements of the Claims
Act in all respects.

7.14 Further Assurances. At any time and from time to time Borrower shall
execute and deliver such further instruments and take such further action as may
reasonably be requested by Lender to effect the purposes of this Agreement.

8. Borrower’s Negative Covenants. Borrower covenants on behalf of itself and
each of its Subsidiaries that neither Borrower nor any Subsidiary will at any
time that any amount is unpaid on any Loan or any other Obligation or any
commitment of the Lender to make Loans to Borrower is in effect, except with the
prior written consent of the Lender:

8.1. Disposition of Assets. Sell, assign, exchange or otherwise dispose of any
of its assets or of any stock or equity interests or Indebtedness of any other
Person held by it or any interest therein to any other Person (except for
(i) sales of Inventory in the ordinary course of Borrower’s business;
(ii) dispositions of obsolete or worn out Equipment or Equipment no longer used
in its business; (iii) sales of other Equipment, provided such Equipment is
promptly replaced with Equipment of equal or greater value and utility to the
Borrower), (iv) licenses and similar arrangements for the use of the property of
Borrower or its Subsidiaries in the ordinary course of business; and (v) other
assets of Borrower or its Subsidiaries that do not in the aggregate exceed
$100,000 during any fiscal year

 

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8.2. Indebtedness. Create, incur, assume or allow to exist any Indebtedness
except: (i) Indebtedness owing to or held by Lender; (ii) Indebtedness owing to
or held by Subordinated Lender; (iii) unsecured Indebtedness of Borrower
existing on the Closing Date and disclosed in the financial statements, most
recently delivered to the Lender, provided that none of such Indebtedness shall
be renewed, extended or otherwise modified in any material respect;
(iv) unsecured current liabilities (not the result of borrowing) incurred in the
ordinary course of business and not overdue; (v) Capital Leases and other
purchase money financing of capital assets permitted under Section 8.4,
(vi) Subordinated Debt; (vii) up to $400,000 pursuant to a promissory note
payable to Looney in connection with Borrower’s exercise of its right to
purchase from Looney the remaining outstanding shares of capital stock of Optex
or such additional loans from Looney as may be approved in writing by the
Lenders, provided however, that any note payable to Looney shall be subordinated
to the Notes and shall expressly be subject to the condition that any Looney
transaction shall not be consummated without the simultaneous execution and
delivery by Looney of an Intercreditor agreement to Lender, acceptable to Lender
in its sole discretion; (viii) other Indebtedness incurred after the Closing
Date with prior notice to and the consent of Lender (except that Lender consents
to the incurring by Borrower of additional Indebtedness of $100,000 outstanding
in the aggregate at any one time and incurred in the ordinary course of
business); and (ix) extensions, refinancings and renewals of any items above
(other than items in (iii) above), provided that the principal amount is not
increased or the terms modified to impose more burdensome terms upon Borrower or
its Subsidiary, as the case may be.

8.3. Change in Name, Location, Executive Office, or Executive Management; Change
in Business; Change in Fiscal Year; Change in Control. Change its name or the
Borrower State or relocate its chief executive office without 30 days prior
written notification to Lender; replace its chief executive officer or chief
financial officer without prompt written notification to Lender; engage in any
business, or permit any of its Subsidiaries to engage in any business, other
than or reasonably related or incidental to the businesses currently engaged in
by Borrower; change its fiscal year end; have a Change in Control.

8.4. Liens. Create, permit to be created or suffer to exist any Lien upon any of
the Collateral or any other property of Borrower, now owned or hereafter
acquired, except: (i) landlords’, carriers’, warehousemen’s, mechanics’ and
other similar Liens arising by operation of law in the ordinary course of
Borrower’s business; provided, however, that all such Liens shall be discharged
or bonded off within sixty (60) days from the filing thereof; (ii) Liens arising
out of pledge or deposits under worker’s compensation, unemployment insurance,
old age pension, social security, retirement benefits or other similar
legislation; (iii) Liens in favor of Lender and Subordinated Lender; (iv) Liens
for taxes (excluding any Lien imposed pursuant to any provision of ERISA) not
yet due or which are being contested in good faith by appropriate proceedings
and Borrower maintains appropriate reserves in respect thereto provided that in
Lender’s judgment such Lien does not adversely affect Lender’s rights or the
priority of Lender’s Lien in the Collateral; (v) easements, rights of way,
restrictions and other similar charges or Liens relating to real property and
not interfering in a material way with the ordinary conduct of Borrower’s
business; (vi) Liens set forth on Schedule 8.4 hereto; (vi) Liens to secure
purchase money financing of capital assets provided that the liens only secure
payment of the Indebtedness so incurred and extend only to the capital asset
purchased; and (vii) any liens incurred in connection with the additional
Indebtedness permitted under Section 8.2(vi) (collectively, “Permitted Liens”).

 

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8.5. Distributions. Pay any Distributions or commit or agree to do so at any
time without the prior written consent of Lender.

8.6. Loans. Make any loans or advances to any Person, including without
limitation any of any Borrower’s members, directors, officers, employees,
stockholders and Affiliates, except (i) advances to employees with respect to
expenses incurred by them in the ordinary course of their duties which are
properly reimbursable by Borrower; and (ii) loans to employees, officers or
directors relating to the purchase of equity securities of Borrower or its
Subsidiaries pursuant to employee stock purchase plan agreements approved by
Borrower’s Board of Directors (not to exceed $50,000 in the aggregate per fiscal
year during the term of this Agreement).

8.7. Contingent Liabilities. Be or become liable on any Contingent Liability
(except guaranties by endorsement of instruments for deposit or collection in
the ordinary course of business and guaranties in favor of Lender).

8.8. Investments. (i) Use any Loan proceeds to purchase or carry any “margin
stock” (as defined in Regulation U of the Board of Governors of the Federal
Reserve System) or (ii) make any Investment in or otherwise purchase any stock,
Indebtedness or securities of any Person except (x) readily marketable direct
obligations of, or obligations guaranteed by, the United States of America or
any agency thereof, (y) time deposits with or certificates of deposit issued by
Lender, (z) Investments of Borrower existing on the Closing Date and disclosed
in the financial statements most recently delivered to the Lender; and (aa)
repurchases of stock from former employees or directors of Borrower under the
terms of applicable repurchase agreements (i) in an aggregate amount not to
exceed $100,000 in any fiscal year, provided that no Event of Default has
occurred, is continuing or would exist after giving effect to the repurchases,
or (ii) in any amount where the consideration for the repurchase is the
cancellation of indebtedness owed by such former employees to Borrower
regardless of whether an Event of Default exists.

8.9. Subsidiaries. Form or acquire any Subsidiary.

8.10. Mergers and Acquisitions. Merge or consolidate, or permit any of its
Subsidiaries to merge or consolidate, with or into any other business
organization (other than mergers or consolidations of a Subsidiary into another
Subsidiary or into Borrower), or acquire, or permit any of its Subsidiaries to
acquire, all or substantially all of the capital stock or property of another
Person except (a) where (i) such transactions do not in the aggregate exceed
(x) cash consideration of $250,000, or (y) consideration consisting of cash
(subject to (x) above) and/or stock of a value of $500,000; in any case, during
any fiscal year, (ii) no Event of Default has occurred, is continuing or would
exist after giving effect to such transactions, (iii) such transactions do not
result in a Change in Control, and (iv) Borrower is the surviving entity; or
(b) the Acquisition.

 

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8.11. Affiliates. Directly or indirectly, transfer, sell, lease, assign or
otherwise dispose of any material assets to an Affiliate; purchase or acquire
any assets from an Affiliate; enter into any management agreement, service or
consulting agreement with an Affiliate or make any payment thereon; or enter
into any other transaction directly or indirectly with or for the benefit of an
Affiliate (including, without limitation, guaranties or assumptions of
obligations of an Affiliate); except, in each case, in the ordinary course of
Borrower’s business and pursuant to the reasonable requirements of the
respective Borrower’s business and upon fair and reasonable terms no less
favorable to the Borrower as would be obtained by Borrower in a comparable arm’s
length commercial transaction with an independent non-Affiliated Person.

8.12. Subordinated Debt. Make any payment on any Subordinated Debt, except as
may be explicitly permitted under the Subordination Agreement with respect
thereto.

8.13. Inventory and Equipment. Store the Inventory or the Equipment with a
bailee, warehouseman, or similar third party unless the third party has been
notified of Lender’s security interest and Lender (a) has received an
acknowledgment from the third party that it is holding or will hold the
Inventory or Equipment for Lender’s benefit or (b) is in possession of the
warehouse receipt, where negotiable, covering such Inventory or Equipment.
Except for Inventory sold in the ordinary course of business and except for such
other locations as Lender may approve in writing, Borrower shall keep the
Inventory and Equipment only at the location set forth in Section 10 and such
other locations of which Borrower gives Lender prior written notice and as to
which Lender files a financing statement where needed to perfect its security
interest.

8.14. No Investment Company; Margin Regulation. Become or be controlled by an
“investment company,” within the meaning of the Investment Company Act of 1940,
or become principally engaged in, or undertake as one of its important
activities, the business of extending credit for the purpose of purchasing or
carrying margin stock, or use the proceeds of any Credit Extension for such
purpose.

8.15. Financial Covenants. Borrower shall-maintain the following financial
ratios and covenants at any time that an Event of Default under Section 10(a)
exists:

(a) Debt Service Coverage Ratio. A ratio of EBITDA plus non-cash employee
retirement plan contributions, less cash taxes and Non-Financed Capitalized
Expenditures, to the principal and interest payments due on the outstanding
principal amount of the Term Loan plus accrued and unpaid interest, fees and
penalties during the period, plus any cash principal and interest payments due
on account of Subordinated Debt during the period; all as of the last day of any
fiscal quarter for the trailing three (3) months ending on that date, of not
less than 1.25 to 1.00 thereafter.

(b) Tangible Net Worth Plus Subordinated Debt. A Tangible Net Worth plus
Subordinated Debt at all times of not less than $6,000,000, increasing quarterly
by 50% of net profit (but not decreasing for losses).

 

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9. Additional Covenants and Assurances.

9.1. Notice of Changes. Borrower will notify Lender, at least ten (10) days
prior to any change in Borrower’s exact legal name, any change in its principal
place(s) of business or location(s) of Collateral as set forth in Section 4.15
or its establishment of any new place of business or location of its material
assets or office where its records concerning material Accounts and other assets
are kept.

9.2. Additional Assurances. At Lender’s request, Borrower at its expense will
promptly and duly execute and deliver such documents and assurances and take
such actions as may be reasonably necessary or desirable or as Lender may
reasonably request in order to correct any defect, error or omission which may
at any time be discovered or to more effectively carry out the intent and
purpose of this Agreement and to establish, perfect and protect Lender’s
security interest, rights and remedies created or intended to be created
hereunder. Without limiting the generality of the above, Borrower will join with
Lender in executing financing and continuation statements pursuant to the
Uniform Commercial Code or other notices appropriate under applicable Federal or
state law in form reasonably satisfactory to Lender and filing the same in all
public offices and jurisdictions wherever and whenever requested by Lender.
Moreover, Borrower appoints Lender and its agents and designees, as Borrower’s
attorney-in-fact, to execute in Borrower’s name and on Borrower’s behalf any UCC
financing statements or amendments thereto for any of the foregoing purposes,
which power is coupled with an interest, and irrevocable, until all Obligations
have been paid in full. Borrower releases Lender and its officers, employees,
agents and designees from any liability arising from any act or acts in
connection with such action(s) or in furtherance thereof, whether of admission
or omission and whether based on any error of judgment or mistake of law or
fact.

9.3. Additional Collateral Actions. Borrower shall use commercially reasonable
efforts to obtain for each location that is not owned and controlled by Borrower
an agreement in writing from the Person in possession of Borrower’s assets
and/or the owner or operator of such premises, in form and substance
satisfactory to Lender, acknowledging Lender’s first priority security interest
in the Collateral, waiving security interests and claims by such Person in the
Collateral and permitting the Lender access to, and the right to remain on such
premises, so as to exercise the Lender’s rights and remedies and otherwise deal
with the Collateral.

9.4. Verification of Accounts. Lender may, at any time after prior written
notice is given to the Borrower, in its own name or in the name of others
communicate with account debtors on a reasonable basis in order to verify with
them to Lender’s satisfaction the existence, amount and terms of any Accounts
and the absence of any reductions, discounts, defenses or offsets with respect
thereto.

9.5. Power of Attorney. Upon the occurrence and continuation of an Event of
Default, Borrower does hereby make, constitute and appoint any officer or agent
of Lender as Borrower’s true and lawful attorney-in-fact, with full power of
substitution: (a) to endorse the name of Borrower or any of its members,
officers or agents upon any notes, checks, drafts, money orders, or other
instruments of payment (including under any policy of insurance on Collateral)
or Collateral that may come into possession of Lender in full or part payment of
any amounts owing to Lender; (b) to sign and endorse the name of Borrower or any
of its officers or agents upon any invoice, freight or express bill, bill of
lading, storage or warehouse receipts, drafts against

 

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debtors, assignments, verifications and notices in connection with Accounts, and
any instruments or documents relating thereto or to Borrower’s rights therein;
(c) to give written notice to such offices and officials of the United States
Postal Service to effect such change or changes of address so that all mail
addressed to Borrower may be delivered directly to Lender; (d) to take any and
all other actions necessary or appropriate to collect, compromise, settle, sell
or otherwise deal with any or all of the Collateral or proceeds thereof, and
(e) to obtain, adjust, settle and cancel any insurance referred to in
Section 7.2; hereby granting to each said substitute full power to do any and
all things necessary or appropriate to be done in and about the premises as
fully and effectively as Borrower might or could do, and hereby ratifying all
that any said attorney-in-fact or his substitute shall lawfully do or cause to
be done by virtue hereof.

9.6. Insurance Assignment. Upon the occurrence and continuation of an Event of
Default, Borrower hereby assigns to Lender all sums, including without
limitation, return of premiums, which may become payable under any and all of
Borrower’s policies of insurance and directs each insurance company issuing any
such policy to make payment thereof directly to Lender.

9.7. Government Accounts. If any Accounts arise from contracts with the United
States or any department, agency or instrumentality thereof, Borrower will
promptly notify Lender thereof and execute any instruments and take any steps
requested by Lender in order that all monies due and to become due thereunder
shall be assigned to Lender and notice thereof given to the Federal authorities
under the Federal Assignment of Claims Act.

9.8. Payments by Lender. In its sole discretion, Lender may upon notice to
Borrower and Borrower’s failure within ten (10) business days to pay any of the
following (or such lesser period of time if imposition of a Lien, loss of
insurance or tax lien is imminent): (i) discharge taxes that Borrower fails to
pay (except taxes being contested in good faith and by appropriate proceedings,
for which Borrower has established and is maintaining appropriate reserves, and
as to which no Lien having priority over Lender’s Lien arises) and Liens levied
or placed on Collateral; (ii) pay for insurance of Borrower that Borrower fails
to pay or the maintenance and preservation thereof; or (iii) if Borrower shall
fail to make deposits in respect of F.I.C.A. and withholding taxes referred to
in Section 5.8, make such deposits or pay such taxes, in whole or in part, or
set up such reserves as Lender shall in its sole discretion deem necessary in
respect of Borrower’s liability therefor. Any amount so paid, deposited or
reserved for shall constitute a Revolving Loan for all purposes hereunder.
Nothing herein shall be deemed to obligate Lender to do any of the foregoing and
the making of any one or more such payments, deposits or reserves shall not
constitute an agreement by Lender to take any further or similar action or a
waiver of any right of Lender hereunder.

9.9. Access to Records. Borrower will at all times keep accurate records of the
Collateral and will permit Lender or its agents or representatives at Lender’s
election at any time during normal business hours from time to time in Lender’s
reasonable discretion, at Lender’s expense (other than upon the occurrence and
during the continuance of an Event of Default, then at Borrower’s expense) to
visit Borrower’s place(s) of business, without hindrance or delay, to inspect
Collateral and examine check audit and make copies and abstracts from Borrower’s
records and books of account (including, without limitation, corporate minutes,
and records,

 

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journals, orders, receipts and correspondence relating to Collateral, account
debtors, transactions unrelated to collateral and Borrower’s general financial
condition, business and affairs); to remove any of such books and records
temporarily for the purpose of having copies made; and to discuss with any of
Borrower’s appropriate members, directors, officers, accountants and other
agents or representatives the Collateral and Borrower’s general financial
condition, business and affairs. Where such examinations are at the Borrower’s
expense, Borrower shall pay Lender’s examination fees plus such costs and
expenses as may be reasonably incurred by Lender in connection therewith.

9.10. License to Use Premises. Borrower hereby grants to Lender, for a term
commencing on the Closing Date and continuing so long as any of the Obligations
remain outstanding, at a rental of $1.00 for such entire term, the right to the
use of all premises or places of business which Borrower now or hereafter may
have and where any Collateral may be located for the purpose of exercising its
rights and remedies hereunder to realize on the Collateral; provided that Lender
agrees not to exercise such right unless and until an Event of Default occurs
and is continuing.

9.11. Instruments Evidencing Accounts. If any Accounts are at any time evidenced
by promissory notes, trade acceptances or other instruments for the payment of
money, Borrower will promptly deliver and pledge the same to Lender
appropriately endorsed to Lender’s order and, regardless of the form of such
endorsement, Borrower hereby waives presentment, demand, notice of dishonor,
protest, notice of protest and all other notices with respect thereto.

9.12. No Lender Liability. Notwithstanding anything to the contrary set forth
herein, Lender shall not have any obligation or liability under any Accounts or
other Collateral arising out of this Agreement or Lender’s exercise of its
rights and remedies or Borrower’s performance of its obligations hereunder, nor
shall Lender have any obligation to make any inquiry as to the nature or
sufficiency of any payment received by it, or to file any claim or take any
action to enforce the payment or performance of any portion of the Collateral.
Beyond the safe custody thereof, Lender shall have no duty as to any Collateral
in its or its nominee’s possession or any income thereon, or as to the
preservation of rights against other parties or otherwise.

9.13. Transfer of Investment Property to Lender’s Name. Lender may transfer
Investment Property of the Borrower into its name or that of its nominee,
whether or not a Default or an Event of Default has occurred, and, after the
occurrence and during the continuance of an Event of Default, may receive the
income and any distributions’ thereon and hold the same as Collateral for the
Obligations, or apply the same to any defaulted Obligation.

10. Events of Default. The occurrence of any of the following shall constitute
an Event of Default:

(a) failure by Borrower to pay any principal, interest or other amount due on
account of the Term Loan or any other Obligation on the date due;

(b) failure by Borrower to perform or comply with the covenants set forth in
Sections 7, 8 or 9 hereof or any other material covenant in any of the
Subscription Documentation within the time periods set forth for performance and
compliance with respect to such covenant.

 

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(c) failure by Borrower to perform or discharge, observe or comply with any of
its other covenants or agreements set forth herein or in the Subscription
Documentation, or any other Obligation, within ten (10) days of the date
Borrower became aware of such failure or receives notice thereof from the
Lender;

(d) any representation, warranty or statement of Borrower to Lender in
connection with any Obligation (including, without limitation, any made in any
document provided by Borrower hereunder or under any Subscription Documentation)
is found to have been false or misleading in any material respect as of the time
when made; provided, however, that if the default cannot by its nature be cured
within the 10 day period or cannot after diligent attempts by Borrower be cured
within such 10 day period, and such default is likely to be cured within a
reasonable time, then Borrower shall have an additional reasonable period (which
shall not in any case exceed 30 days) to attempt to cure such default, and
within such reasonable time period the failure to have cured such default shall
not be deemed an Event of Default;

(e) occurrence of any event of default (subject to any applicable grace period)
as defined in any other instrument evidencing or governing Indebtedness for
Borrowed Money in excess of, in the aggregate, $100,000, of Borrower (other than
Obligations) now or hereafter outstanding; or any event or condition which gives
any holder or trustee of such Indebtedness for Borrowed Money the right to
accelerate its maturity; or any event of default under any Subscription
Documentation;

(f) Borrower’s or any guarantor’s or endorser’s liquidation, termination,
dissolution or ceasing to carry on actively any substantial part of its current
business or the death of any guarantor or endorser;

(g) commencement by Borrower or any guarantor or endorser of a voluntary
proceeding seeking relief with respect to itself or its debts under any
bankruptcy, insolvency or other similar law, or seeking appointment of a
trustee, receiver, liquidator or other similar official for it or any
substantial part of its assets; or its consent to any of the foregoing in an
involuntary proceeding against it; or Borrower or any guarantor or endorser
shall generally not be paying its debts as they become due or admit in writing
its inability to do so; or an assignment for the benefit of, or the offering to
or entering into by, Borrower or any guarantor or endorser of any composition,
extension, reorganization or other agreement or arrangement with, its creditors;
or if Borrower becomes insolvent;

(h) commencement of an involuntary proceeding against Borrower or any guarantor
or endorser seeking relief with respect to it or its debts under any bankruptcy,
insolvency or other similar law, or seeking appointment of a trustee, receiver,
liquidator or other similar official for it or any substantial part of its
assets, which proceeding is not dismissed or stayed within sixty (60) days,

 

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(i) service upon Lender of a writ of levy or attachment, or naming Lender as
trustee for Borrower, or of any other similar process of attachment which is not
dismissed within ten (10) days;

(j) entry of any judgment(s) against Borrower in an aggregate amount greater
than $100,000 which are not covered by insurance (and for this purpose a
judgment shall be deemed “covered by insurance” only if the insurance company
has formally advised Borrower in writing that the judgment in its entirety is
covered by insurance and no action is being taken to execute such judgment
against any of Borrower’s assets) and shall remain undischarged or unvacated for
a period in excess of sixty (60) days or execution shall at any time not be
effectively stayed;

(k) If Borrower makes any payment on account of Subordinated Debt, except to the
extent the payment is allowed under any subordination agreement entered into
with Lender;

(l) If any guaranty of all or a portion of the Obligations (a “Guaranty”) ceases
for any reason to be in full force and effect, or any guarantor fails to perform
any obligation under any Guaranty or a security agreement securing any Guaranty
(collectively, the “Guaranty Documents”), or any event of default occurs under
any Guaranty Document or any guarantor revokes or purports to revoke a Guaranty,
or any material misrepresentation or material misstatement exists now or
hereafter in any warranty or representation set forth in any Guaranty Document
or in any certificate delivered to Lender in connection with any Guaranty
Document, or if any of the circumstances described in (g) or (h), above, occur
with respect to any guarantor.

(m) If any material portion of Borrower’s assets is attached, seized, subjected
to a writ or distress warrant, or is levied upon, or comes into the possession
of any trustee, receiver or person acting in a similar capacity and such
attachment, seizure, writ or distress warrant or levy has not been removed,
discharged or rescinded within 30 days, or if Borrower is enjoined, restrained,
or in any way prevented by court order from continuing to conduct all or any
material part of its business affairs, or if a judgment or other claim becomes a
lien or encumbrance upon any material portion of Borrower’s assets, or if a
notice of lien, levy, or assessment is filed of record with respect to any of
Borrower’s assets by the United States Government, or any department, agency, or
instrumentality thereof, or by any state, county, municipal, or governmental
agency, and the same is not paid within thirty days after Borrower receives
notice thereof, provided that none of the foregoing shall constitute an Event of
Default where such action or event is stayed or an adequate bond has been posted
pending a good faith contest by Borrower;

(n) entry of any court order which enjoins, restrains, or in any way prevents
Borrower from conducting all or any substantial part of Borrower’s business;

(o) any material reclamation, repossession, loss, theft, damage or destruction
to or of any asset(s) of Borrower not covered by insurance in excess of
$100,000;

(p) the occurrence of any event having a Material Adverse Effect on Borrower;

 

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(q) there shall occur and be continuing any Reportable Event which constitutes
grounds for termination of or for appointment by a United States District Court
of a trustee to administer any Plan; the PBGC shall institute proceedings to
terminate or to appoint a trustee to administer any Plan; a United States
District Court shall appoint a trustee to administer any Plan; or any Plan shall
be terminated in circumstances giving rise to liabilities having a Material
Adverse Effect on Borrower’s financial condition;

(r) termination of, failure to make any payment required under or any other
default under any guaranty of, or other instrument or agreement securing any of,
the Obligations;

(s) If a Change in Control occurs;

(t) The Borrower’s common stock shall be delisted from NASDAQ Capital Market or
shall be suspended from trading on NASDAQ Capital Market or Borrower receives
notice of action or potential action by the NASDAQ Capital Market which could
result in delisting of Borrower from the NASDAQ Capital Market or suspension
from trading therefrom or any failure by Borrower to comply with any NASDAQ
Capital Market Rules and/or any other laws or regulations, the violation of
which may result in delisting or suspension from trading (other than a notice
from NASDAQ that Borrower has failed to comply with Nasdaq Capital Market
financial requirements set forth in Nasdaq Rules 4310 and 4320 (or any similar
successor rules of NCM or any successor exchange), in which case, it shall be an
Event of Default only if Borrower fails to cure or successfully appeal such
notice prior to being delisted).

Borrower acknowledges and agrees that each and every Event of Default described
above shall be of equal weight and significance, and equally and fully shall
allow Lender to exercise its rights and remedies hereunder. Borrower
acknowledges and agrees that each such Event of Default has been a material
inducement for Lender to enter into this Agreement and that Lender would be
irreparably harmed if Lender, in any way, were unable to exercise its rights and
remedies on the basis that certain Events of Default (for example, Events of
Default not relating to payment) were of less weight or significance than
certain other Events of Default (for example, Events of Default relating to
payment).

11. Lender’s Rights and Remedies. Following the occurrence and during the
continuance of an Event of Default:

11.1. Upon the occurrence and during the continuance of an Event of Default,
Lender may, at its election, without notice of its election and without demand,
do any one or more of the following, all of which are authorized by Borrower:

(a) Declare all Obligations, whether evidenced by this Agreement, by any of the
other Loan Documents, or otherwise, immediately due and payable (provided that
upon the occurrence of an Event of Default described in Section 10 (a), (f),
(g), (h), (m), (n) or (t), all Obligations shall become immediately due and
payable without any action by Lender);

 

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(b) Cease advancing money or extending credit to or for the benefit of Borrower
under this Agreement or under any other agreement between Borrower and Lender;

(c) Settle or adjust disputes and claims directly with account debtors for
amounts, upon terms and in whatever order that Lender reasonably considers
advisable;

(d) Make such payments and do such acts as Lender considers necessary or
reasonable to protect its security interest in the Collateral. Borrower agrees
to assemble the Collateral if Lender so requires, and to make the Collateral
available to Lender as Lender may designate. Borrower authorizes Lender to enter
the premises where the Collateral is located, to take and maintain possession of
the Collateral, or any part of it, and to pay, purchase, contest, or compromise
any encumbrance, charge, or lien which in Lender’s determination appears to be
prior or superior to its security interest and to pay all expenses incurred in
connection therewith. With respect to any of Borrower’s owned premises, Borrower
hereby grants Lender a license to enter into possession of such premises and to
occupy the same, without charge, in order to exercise any of Lender’s rights or
remedies provided herein, at law, in equity, or otherwise;

(e) Set off and apply to the Obligations any and all (i) balances and deposits
of Borrower held by Lender, and (ii) indebtedness at any time owing to or for
the credit or the account of Borrower held by Lender;

(f) Ship, reclaim, recover, store, finish, maintain, repair, prepare for sale,
advertise for sale, and sell (in the manner provided for herein) the Collateral.
Lender is hereby granted a license or other right, solely pursuant to the
provisions of this Section, to use, without charge, Borrower’s labels, patents,
copyrights, rights of use of any name, trade secrets, trade names, trademarks,
service marks, and advertising matter, or any property of a similar nature, as
it pertains to the Collateral, in completing production of, advertising for
sale, and selling any Collateral and, in connection with Lender’s exercise of
its rights under this Section, Borrower’s rights under all licenses and all
franchise agreements shall inure to Lender’s benefit;

(g) Sell the Collateral at either a public or private sale, or both, by way of
one or more contracts or transactions, for cash or on terms, in such manner and
at such places (including Borrower’s premises) as Lender determines is
commercially reasonable, and apply any proceeds to the Obligations in whatever
manner or order Lender deems appropriate. Lender may sell the Collateral without
giving any warranties as to the Collateral. Lender may specifically disclaim any
warranties of title or the like. This procedure will not be considered adversely
to affect the commercial reasonableness of any sale of the Collateral. If Lender
sells any of the Collateral upon credit, Borrower will be credited only with
payments actually made by the purchaser, received by Lender, and applied to the
indebtedness of the purchaser. If the purchaser fails to pay for the Collateral,
Lender may resell the Collateral and Borrower shall be credited with the
proceeds of the sale;

(h) Lender may credit bid and purchase at any public sale;

(i) Apply for the appointment of a receiver, trustee, liquidator or conservator
of the Collateral, without notice and without regard to the adequacy of the
security for the Obligations and without regard to the solvency of Borrower, any
guarantor or any other Person liable for any of the Obligations;

 

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(j) Any deficiency that exists after disposition of the Collateral as provided
above will be paid immediately by Borrower; and

(k) In the event that at any time Notes and Warrants are outstanding, (i) the
Company is prohibited from issuing Warrant Shares, (ii) the Company fails to
timely deliver Warrant Shares within five Business Days after a Delivery Date if
required to deliver such Warrant Shares pursuant to Section 1.7 or 1.8 of the
Warrants, (iii) upon the occurrence of any other Event of Default (as defined in
the Loan Documents), any of the foregoing that continues for more than twenty
(20) Business Days, (iv) a Change in Control, or (v) of the liquidation,
dissolution or winding up of the Company, then at each Lender’s election and in
lieu of the payment required pursuant to Section 2.1.3(a), the Company must pay
to the Lender fifteen (15) Business Days after request by the Lender
(“Calculation Period”), a sum of money determined by multiplying up to the
outstanding principal amount of the Lender’s pro rata portion of the Obligations
multiplied by 115%, together with accrued but unpaid interest thereon
(“Mandatory Redemption Payment”). The Mandatory Redemption Payment must be
received by the Lender within fifteen (15) Business Days after request
(“Mandatory Redemption Payment Date”). Upon receipt of the Mandatory Redemption
Payment, all Obligations with respect to principal and interest for the Term
Loan will be deemed paid and no longer outstanding. Liquidated damages
calculated pursuant to the Warrants, the Subscription Agreement and the
Registration Rights Agreement, that have been paid or accrued for the ten day
period prior to the actual receipt of the Mandatory Redemption Payment by the
Lender shall be credited against the Mandatory Redemption Payment.

Lender may comply with any applicable state or federal law requirements in
connection with a disposition of the Collateral and compliance will not be
considered adversely to affect the commercial reasonableness of any sale of the
Collateral.

11.2 Power of Attorney. Effective only upon the occurrence and during the
continuance of an Event of Default, Borrower hereby irrevocably appoints Lender
(and any of Lender’s designated officers, or employees) as Borrower’s true and
lawful attorney to: (a) send requests for verification of Accounts or notify
account debtors of Lender’s security interest in the Accounts; (b) endorse
Borrower’s name on any checks or other forms of payment or security that may
come into Lender’s possession; (c) sign Borrower’s name on any invoice or bill
of lading relating to any Account, drafts against account debtors, schedules and
assignments of Accounts, verifications of Accounts, and notices to account
debtors; (d) dispose of any Collateral; (e) make, settle, and adjust all claims
under and decisions with respect to Borrower’s policies of insurance; (f) settle
and adjust disputes and claims respecting the accounts directly with account
debtors, for amounts and upon terms which Lender determines to be reasonable;
(g) enter into a short-form intellectual property security agreement consistent
with the terms of this Agreement for recording purposes only or modify, in its
sole discretion, any intellectual property security agreement entered into
between Borrower and Lender without first obtaining Borrower’s approval of or
signature to such modification by amending Exhibits A, B, and C, thereof, as
appropriate, to include reference to any right, title or interest in any
Copyrights, Patents or Trademarks acquired by Borrower after the execution
hereof or to delete any reference to any

 

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right, title or interest in any Copyrights, Patents or Trademarks in which
Borrower no longer has or claims to have any right, title or interest; and
(h) file, in its sole discretion, one or more financing or continuation
statements and amendments thereto, relative to any of the Collateral without the
signature of Borrower where permitted by law; provided Lender may exercise such
power of attorney to sign the name of Borrower on any of the documents described
in clauses (g) and (h) above, regardless of whether an Event of Default has
occurred. The appointment of Lender as Borrower’s attorney in fact, and each and
every one of Lender’s rights and powers, being coupled with an interest, is
irrevocable until all of the Obligations have been fully repaid and performed
and Lender’s obligation to provide advances hereunder is terminated.

11.3. Accounts Collection. At any time after the occurrence and during the
continuation of an Event of Default, Lender may notify any Person owing funds to
Borrower of Lender’s security interest in such funds and verify the amount of
such Account. Borrower shall collect all amounts owing to Borrower for Lender,
receive in trust all payments as Lender’s trustee, and immediately deliver such
payments to Lender in their original form as received from the account debtor,
with proper endorsements for deposit.

11.4. Lender Expenses. If Borrower fails to pay any amounts or furnish any
required proof of payment due to third persons or entities, as required under
the terms of this Agreement, then Lender may do any or all of the following
after reasonable notice to Borrower: (a) make payment of the same or any part
thereof; (b) set up such reserves under the Revolving Line as Lender deems
necessary to protect Lender from the exposure created by such failure; or
(c) obtain and maintain insurance policies of the type discussed in Section 7.2
of this Agreement, and take any action with respect to such policies as Lender
deems prudent. Any amounts so paid or deposited by Lender shall constitute
Lender Expenses, shall be immediately due and payable, and shall bear interest
at the then applicable rate hereinabove provided, and shall be secured by the
Collateral. Any payments made by Lender shall not constitute an agreement by
Lender to make similar payments in the future or a waiver by Lender of any Event
of Default under this Agreement.

11.5. Lender’s Liability for Collateral. Lender has no obligation to clean up or
otherwise prepare the Collateral for sale. All risk of loss, damage or
destruction of the Collateral shall be borne by Borrower, until such time as the
Lender has taken possession of the Collateral (exclusive to the rights of
Borrower therein).

11.6. No Obligation to Pursue Others. Lender has no obligation to attempt to
satisfy the Obligations by collecting them from any other person liable for them
and Lender may release, modify or waive any collateral provided by any other
Person to secure any of the Obligations, all without affecting Lender’s rights
against Borrower. Borrower waives any right it may have to require Lender to
pursue any other Person for any of the Obligations.

11.7. Remedies Cumulative. Lender’s rights and remedies under this Agreement,
the Loan Documents, and all other agreements shall be cumulative. Lender shall
have all other rights and remedies not inconsistent herewith as provided under
the Code, by law, or in equity. No exercise by Lender of one right or remedy
shall be deemed an election, and no waiver by Lender of any Event of Default on
Borrower’s part shall be deemed a continuing waiver. No delay by Lender shall
constitute a waiver, election, or acquiescence by it. No waiver by Lender

 

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shall be effective unless made in a written document signed on behalf of Lender
and then shall be effective only in the specific instance and for the specific
purpose for which it was given. Borrower expressly agrees that this Section 9.7
may not be waived or modified by Lender by course of performance, conduct,
estoppel or otherwise.

11.8. Demand; Protest. Except as otherwise provided in this Agreement, Borrower
waives demand, protest, notice of protest, notice of default or dishonor, notice
of payment and nonpayment and any other notices relating to the Obligations.

12. Expenses; Indemnification, Etc.

12.1. Payment of Expenses. Borrower agrees to pay Lender on demand any and all
costs, expenses, losses, claims, damages, liabilities, penalties, suits,
judgments or disbursements of any nature (including, without limitation,
reasonable attorneys’ fees and disbursements and appraisal costs) which may be
incurred by, imposed on or asserted against Lender in connection with:
preparation of this Agreement, and all instruments and documents relating
hereto; all other amendments, modifications or waivers hereof, appraisal fees
and environmental assessment fees as may be charged by Lender pursuant to this
Agreement and incurred in connection with this Agreement; taxes and other
governmental charges payable by reason of this Agreement, documents and filings
relating hereto and Collateral (excluding income and franchise taxes payable by
Lender); exercise of Lender’s rights with respect to Collateral or any guarantor
or surety of Borrower; any exercise of Lender’s right of acceleration; any
enforcement, collection or other proceedings with respect to the Obligations or
from any negotiations or other measures to preserve Lender’s rights hereunder;
any investigative, administrative or judicial proceeding (whether or not Lender
is designated as a party thereto) relating to Borrower or the Obligations,
relating to or arising out of this Agreement or any other transaction between
the Lender and the Borrower or any obligor on the Obligations; or any
bankruptcy, insolvency or other similar proceedings relating to Borrower.

12.2. Indemnification. Borrower shall indemnify and hold Lender and each
Participant and Assignee, and their directors, agents and employees, harmless
from and against any, and shall pay on demand all, losses, claims, damages,
liabilities, costs or expenses imposed on, incurred by or asserted against any
of them in connection with any litigation, investigation, claim or proceeding
commenced or threatened related to the delivery, enforcement, performance or
administration of this Agreement, any other Loan Documents, or any undertaking
or proceeding related to any of the hereby or otherwise or any act, omission,
event or transaction related or attendant thereto, including, without
limitation, amounts paid in settlement, court costs, and the reasonable fees and
expenses of counsel; provided, however, that no such indemnity shall apply in
respect of losses or claims caused by Lender’s, Participant’s or Assignee’s
gross negligence or willful misconduct. To the extent that the undertaking to
indemnify, pay and hold harmless set forth in this Section may be unenforceable
because it violates any law or public policy, Borrower shall pay the maximum
portion which it is permitted to pay under applicable law to Lender in
satisfaction of indemnified matters under this Section. Borrower’s obligation to
make any payments to Lender under the foregoing indemnity shall be net of any
collateral liquidation proceeds, eminent domain proceeds and insurance proceeds
(not including, however, any tax benefits) actually received by Lender. The
foregoing indemnity shall survive the payment of the Obligations and the
termination or non-renewal of this Agreement.

 

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12.3. Exculpation. Neither Lender nor any attorney-in-fact hereunder shall be
liable to Borrower or any other Person for any act or omission, any mistake of
fact or any error of judgment in exercising any right or remedy granted herein
except for such liability caused by Lender’s gross negligence or willful
misconduct.

12.4. Collateral Secures Indemnification. Lender shall be entitled to retain
Collateral or require substitution therefor to the extent required to assure
Lender of satisfaction of Borrower’s Obligations under this Article 12 until
such time as the Obligations (other than the Obligations under this Article 12)
are paid in full.

13. Conditions Precedent.

13.1. Conditions to Loan. Borrower acknowledges and agrees that the satisfaction
of each of the following in a manner satisfactory to Lender is a condition
precedent to the making of the Term Loan hereunder:

(a) Delivery of Documents. Borrower shall have delivered, or caused to be
delivered, Lender all documents, instruments and agreements as Lender shall
reasonably request in connection herewith, duly executed by all parties thereto
and substance reasonably satisfactory to Lender and Lender’s counsel, including
the following:

(i) this Agreement, together with all Schedules and Exhibits hereto;

(ii) the Term Note and other agreements to be executed and delivered in
connection herewith;

(iii) the UCC financing statements of Borrower;

(iv) the Subordination Agreement among Lender and Borrower;

(v) the opinion letter of counsel to Borrower with respect to the Purchase
Agreements, the Loan Documents and security interest and liens of Lender with
respect to the Collateral and such other matters as Lender may reasonably
request;

(vi) Incumbency Certificate of Borrower, with authorizing resolutions, and
certified copies of the Certificates of Incorporation, By-Laws, certificates of
legal existence and good standing, and certificates of foreign good standing and
qualification of Borrower;

(vii) UCC and tax lien searches satisfactory to the Lender;

(viii) Commercial Property and Casualty (All-Risk) and Commercial General
Liability Certificates naming Lender as additional insured and loss payee and
containing non-cancellation provision without ten (10) days notice to Lender;

 

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(ix) a Officer’s Certificate for Borrower in the form reasonably acceptable to
Lender containing customary and usual matters supplied in a commercial loan
closing;

(x) compliance certificate for Borrower, as of the date of execution, in the
form of Exhibit B hereto; and

(xi) all such other documents and instruments as may be required by the Lender
in its reasonable discretion.

(b) Perfection of Security Interests. Borrower shall have taken, or caused to be
taken, all action that Lender requests in order to create and perfect Lender’s
Liens in the Collateral in all jurisdictions designated by Lender and Lender
shall have received evidence, satisfactory to Lender, thereof;

(c) Required Approvals. Lender shall have received certified copies of all
consents or approvals of any governmental authority or other person or entity
which Lender reasonably determines are required in connection with the
transactions contemplated by the Purchase Agreements and the Loan Documents;

(d) No Material Adverse Change. There shall not have occurred any material
adverse change in Borrower’s business, assets, operations, prospects and
financial condition, taken as a whole, or in the value of the Collateral, since
the date of the last financial statements provided to Lender and Lender shall
have received certificates signed by Borrower to such effect;

(e) Proceedings. All proceedings to be taken in connection with the transactions
contemplated by the Loan Documents, Purchase Agreements, subordinated Debt and
all documents contemplated in connection herewith, shall be reasonably
satisfactory in form and substance to Lender and Lender’s counsel; and

(f) Payment of Fees. The Borrower shall have paid to Lender the fees and costs
incurred by the Lender relating to the preparation of this Agreement, the Loan
Documents and all instruments and documents relating hereto.

14. Miscellaneous Provisions.

14.1. Notices. Unless otherwise specified herein, all other notices hereunder
shall be in writing directed to the addresses shown at the beginning of this
Agreement. Written notices and communications shall be effective and shall be
deemed received on the day when delivered by hand or sent by facsimile
transmission; on the next day, if by commercial overnight courier; and on the
third day, if by registered or certified mail, postage prepaid.

If to Lender: To the address set forth opposite each name on the signature page
to the Subscription Agreement.

 

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With a copy to Grushko & Mittman, P.C., 551 Fifth Avenue, Suite 1601, New York,
New York 10176, telecopier number: (212) 697-3575

If to Borrower: IRVINE SENSORS CORPORATION, 3001 Red Hill Ave., Bldg. 4-108,
Costa Mesa, CA 92626, Attn: Chief Financial Officer, FAX: (714) 444-8773

With a copy to: Dorsey & Whitney,

14.2. No Waiver. No failure to exercise and no delay in exercising, on the part
of Lender, any right or remedy hereunder shall operate as a waiver thereof, nor
shall any single or partial exercise thereof preclude any other or further
exercise thereof or the exercise of any other right or remedy. Waiver by Lender
of any right or remedy on any one occasion shall not be construed as a bar to or
waiver thereof or of any other right or remedy on any future occasion. Without
limiting the generality of the foregoing, Borrower expressly agrees that no
failure by Lender to detect or to communicate with Borrower or take action in
response to any failure by Borrower to perform or observe any Obligation shall
operate as a waiver of any right or remedy of Lender. Any waivers by Lender must
be in writing and no officer or employee of Lender is authorized to grant any
oral waiver. Lender’s rights and remedies hereunder, under any agreement or
instrument supplemental hereto or under any other agreement or instrument, shall
be cumulative, may be exercised singly or concurrently, and are not exclusive of
any rights or remedies provided by law.

14.3. Assignment. This Agreement shall be binding upon and shall inure to the
benefit of Borrower and Lender and their respective heirs, legal
representatives, successors and assigns; provided that Borrower may not assign
or transfer any rights or Obligations hereunder without Lender’s prior written
consent. Lender shall have the unrestricted right at any time or from time to
time, and without Borrower’s consent, to assign all or any portion of its rights
and obligations hereunder to one or more Lenders or other financial institutions
(each, an “Assignee”), and Borrower agrees that it shall execute, or cause to be
executed, such documents, including without limitation, amendments to this
Agreement and to any other documents, instruments and agreements executed in
connection herewith as Lender shall deem necessary to effect the foregoing. In
addition, at the request of Lender and any such Assignee, Borrower shall issue
one or more new promissory notes, as applicable, to any such Assignee and, if
Lender has retained any of its rights and obligations hereunder following such
assignment, to Lender, which new promissory notes shall be issued in replacement
of, but not in discharge of, the liability evidenced by the promissory note held
by Lender prior to such assignment and shall reflect the amount of the
respective commitments and loans held by such Assignee and Lender after giving
effect to such assignment. Upon the execution and delivery of appropriate
assignment documentation, amendments and any other documentation required by
Lender in connection with such assignment and the payment by Assignee of the
purchase price agreed to by Assignee, such Assignee shall be a party to this
Agreement and shall have all of the rights and obligations of Lender hereunder
(and executed in connection herewith) to the extent that such rights and
obligations have been assigned by Lender pursuant to the assignment
documentation such Assignee, and Lender shall be released from its obligations
hereunder and thereunder to a corresponding extent.

 

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14.4. Headings. The headings contained herein are for convenience only and shall
not affect the construction hereof. If one or more provisions of this Agreement
(or the application thereof) shall be invalid, illegal or unenforceable in any
respect in any jurisdiction, the same shall not, to the fullest extent permitted
by applicable law, invalidate or render illegal or unenforceable such provision
(or its application) in any other jurisdiction or any other provision of this
Agreement (or its application). This Agreement is the entire agreement of the
parties with respect to the subject matter hereof and supersedes any prior
written or verbal communications or instruments relating thereof.

14.5. Waiver of Remedies. Borrower acknowledges that the transactions
contemplated hereby are commercial transactions and waives, to the fullest
extent it may do so under applicable law, such rights as it may have or
hereafter have to notices and/or hearings under applicable federal or state laws
relating to exercise of any of Lender’s rights, including, without limitation,
the right to deprive Borrower of or affect Borrower’s use, possession or
enjoyment of property prior to rendition of a final judgment against Borrower.

14.6. Participations. Lender shall have the unrestricted right at any time and
from time to time, and without the consent of or notice to Borrower, to grant to
one or more Lenders or other financial institutions (each, a “Participant”)
participating interests in Lender’s obligation to lend hereunder and/or any or
all of the loans held by Lender hereunder. In the event of any such grant by
Lender of a participating interest to a Participant, whether or not upon notice
to Borrower, Lender shall remain responsible for the performance of its
obligations hereunder and Borrower shall continue to deal solely and directly
with Lender in connection with Lender’s rights and obligations hereunder. Lender
may furnish any information concerning Borrower in its possession from time to
time to prospective Assignees and Participants, provided that Lender shall
require any such prospective Assignee or Participant to agree in writing to
maintain the confidentiality of such information. Lender has a right but not an
obligation to waive enforcement of any term hereof against Borrower by the
consent of Participants holding Notes reflecting at least seventy percent
(70%) of the then outstanding principal amount of the Term Loan.

14.7. Replacement Notes. Upon receipt of an affidavit of any officer of Lender
as to the loss, theft, destruction or mutilation of any of the Notes or any
other security document which is not of public record, and, in the case of any
such loss, theft, destruction or mutilation, upon surrender and cancellation of
such Note or other security document, the Borrower will issue, in lieu thereof,
a replacement Note or other security document in the same principal amount
thereof and otherwise of like tenor. Lender agrees to indemnify Borrower for any
double payment or increased liability caused by Lender’s loss of any original
Note.

15. Governing Law, Jurisdiction.

15.1. Governing Law and Jurisdiction. This Agreement shall be governed by and
construed in accordance with the laws of the State of New York without regard to
conflicts of laws principles that would result in the application of the
substantive laws of another jurisdiction. Any action brought by either party
against the other concerning the transactions contemplated by this Agreement
shall be brought only in the civil or state courts of New York or in the federal

 

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courts located in New York County. The parties and the individuals executing
this Agreement and other agreements referred to herein or delivered in
connection herewith on behalf of the Company agree to submit to the jurisdiction
of such courts and waive trial by jury. The prevailing party shall be entitled
to recover from the other party its reasonable attorney’s fees and costs. In the
event that any provision of this Agreement or any other agreement delivered in
connection herewith is invalid or unenforceable under any applicable statute or
rule of law, then such provision shall be deemed inoperative to the extent that
it may conflict therewith and shall be deemed modified to conform with such
statute or rule of law. Any such provision which may prove invalid or
unenforceable under any law shall not affect the validity or enforceability of
any other provision of any agreement.

To the extent permitted by law, Borrower, Lender and Lenders acknowledge and
agree that irreparable damage would occur in the event that any of the
provisions of this Agreement were not performed in accordance with their
specific terms or were otherwise breached. It is accordingly agreed that the
parties shall be entitled to one or more preliminary and final injunctions to
prevent or cure breaches of the provisions of this Agreement and to enforce
specifically the terms and provisions hereof, this being in addition to any
other remedy to which any of them may be entitled by law or equity. Each of the
Borrower, Lender and Lenders and any signator hereto in his personal capacity
hereby waives, and agrees not to assert in any such suit, action or proceeding,
any claim that it is not personally subject to the jurisdiction in New York of
such court, that the suit, action or proceeding is brought in an inconvenient
forum or that the venue of the suit, action or proceeding is improper. Nothing
in this Section shall affect or limit any right to serve process in any other
manner permitted by law.

15.2. Waiver of Counterclaims. Borrower waives all rights to interpose any
claims, deductions, setoffs or counterclaims of any nature (other than
compulsory counterclaims) in any action or proceeding with respect to this
Agreement, the Obligations, the Collateral or any matter arising therefrom or
relating hereto or thereto.

16. Caution.

Caution: Read Before Signing. Great effort has been spent to make sure that this
Agreement fully and accurately documents the understanding between the parties.
If you believe that you have an implicit or oral understanding or agreement not
fully and accurately set forth in this Agreement, DO NOT SIGN IT.

You should also understand that no officer or employee of the Lender has any
authority to modify, alter or amend this Agreement orally. Rather, any and all
changes would have to be put in writing and approved by appropriate officials at
the Lender. If at some future date you believe that this Agreement needs to be
changed in any respect, insist that the change be in writing and signed by an
appropriate officer of the Lender; otherwise, misunderstandings might occur.

Finally, all signatories to this Agreement are urged to have their own legal
counsel review it on their behalf.

 

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Executed as an instrument under seal on the date set forth above.

 

WITNESS:           IRVINE SENSORS CORPORATION

/s/ JAMES PIPP

    By:  

/s/ JOHN C. CARSON

    Name:   John C. Carson     Title:   President & CEO     LONGVIEW FUND, LP

/s/ ARI ZUCKERMAN

    By:  

/s/ S. MICHAEL RUDOLPH

    Name:   S. Michael Rudolph     Title:   CFO – Investment Adviser     ALPHA
CAPITAL ANSTALT

 

    By:  

/s/ KONRAD ACKERMAN

    Name:   Konrad Ackerman     Title:   Director

 

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EXHIBIT A

Term Note

 

   December 29, 2006 $                         New York, NY

The undersigned (collectively, the “Borrower”), for value received, hereby
promise to pay to                      (the “Lender”), or order, on or before
December 29, 2008, the principal amount of                     ($            ),
or such lesser amount as may, at the maturity hereof, whether by declaration,
acceleration or otherwise, be the aggregate unpaid principal amount of the Term
Loan made by the Lender to the Borrower pursuant to the Loan Agreement referred
to below.

This Note shall bear interest (computed on the basis of the actual number of
days elapsed over a 360 -day year) on the unpaid principal amount hereof at the
rate or rates per annum specified in the Loan Agreement referred to below.
Commencing January 1, 2007, and on the 1st Business Day of each calendar quarter
thereafter, Borrower agrees to pay to Lender accrued interest, until and
including the maturity (whether by declaration, acceleration or otherwise).
During the continuance of any Event of Default, at the election of the Lender,
the Borrower shall pay the holder of this Note on demand by such holder,
interest on the unpaid and overdue principal of and (to the extent permitted by
law) on the unpaid interest on this Note at a rate per annum equal to the
Default Rate; and provide further that in no event shall the amount contract for
and agreed to be paid by the Borrower as interest on this Note exceed the
highest lawful rate permissible under any law applicable hereto.

This Note evidences a loan or loans under, and is expressly subject to the
provisions of, a certain Term Loan and Security Agreement dated as of
December 29, 2006 (as amended from time to time, the “Loan Agreement”) by and
between the Borrower and the Lender. The holder of this Note is entitled to the
benefits of the Loan Agreement, and to the benefits of the other Loan Documents
referred to therein. Neither this reference or such Loan Agreement nor any
provision thereof shall affect or impair the absolute and unconditional
obligation of the Borrower to pay the principal of and interest on this Note as
otherwise provided herein. All payments of principal of and interest on this
Note shall be payable in immediately available funds at the address of the
Lender set forth in the Loan Agreement without deduction, setoff or
counterclaim. Capitalized terms used herein without definition shall have the
respective meanings ascribed to them in the Loan Agreement.

This Note is subject to prepayment in whole or in part and to acceleration on
default at times and in the manner specified in the Loan Agreement. The maker
and all endorsers of this Note hereby waive presentment, demand, notice,
protest, notice of intent to accelerate, notice to accelerate, and all other
demands and notices in connection with the delivery, acceptance, performance or
enforcement of this Note. In case of an Event of Default including, without
limitation, a default in the payment of any principal of or interest on this
Note, the Borrower will pay to the Lender such further amount as shall be
sufficient to cover the cost and expense of collection including, without
limitation, reasonable attorneys’ fees, expenses and disbursements.

 

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The Borrower hereby grants to Lender, a lien, security interest and right of set
off as security for all liabilities and obligations to Lender, whether now
existing or hereafter arising, upon and against all deposits, credits,
collateral and property, now or hereafter in the possession, custody,
safekeeping or control of Lender, or in transit to any of them. At any time that
an Event of Default exists, without demand or notice, Lender may set off the
same or any part thereof and apply the same to any liability or obligation of
the Borrower and any guarantor even though unmatured and regardless of the
adequacy of any other collateral securing the Loan. ANY AND ALL RIGHTS TO
REQUIRE LENDER TO EXERCISE ITS RIGHTS OR REMEDIES WITH RESPECT TO ANY OTHER
COLLATERAL WHICH SECURES THE OBLIGATIONS, PRIOR TO EXERCISING ITS RIGHT OF SET
OFF WITH RESPECT TO SUCH DEPOSITS, CREDITS OR OTHER PROPERTY OF THE BORROWER OR
ANY GUARANTOR, ARE HEREBY KNOWINGLY, VOLUNTARILY AND IRREVOCABLY WAIVED.

This Note shall be construed in accordance with and governed by the internal
laws of the State of New York (without giving effect to conflicts of laws
principles) and is executed as a sealed instrument as of the date first above
written.

 

WITNESS:         IRVINE SENSORS CORPORATION

 

    By:  

 

    Name:       Title:  

 

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EXHIBIT B

IRVINE SENSORS CORPORATION

Compliance Certificate

The undersigned, John Stuart, Treasurer and Chief Financial Officer of Irvine
Sensors Corporation (the “Borrower”), hereby certifies on behalf of the Borrower
as of the date hereof the following:

 

1. No Defaults. I have read a copy of the Term Loan and Security Agreement dated
December 29, 2006 (the “Loan Agreement”) between the Borrower and Longview Fund,
L.P. and Alpha Capital Anstalt (collectively, “Lender”). Terms used herein and
not otherwise defined herein shall have the meanings set forth in Section I of
the Loan Agreement. The Borrower is not in default in the performance or
observance of any of the covenants, terms or provisions of the Loan Agreement or
any of the other Loan Documents.

 

2. No Material Changes, Etc. Except as disclosed on Appendix I hereto, since
                         [Date of most recent financial statements furnished to
the Lender], there have occurred no materially adverse changes in the financial
condition or business of the Borrower as shown on or reflected in the balance
sheet of the Borrower as at such date other than (a) changes in the ordinary
course of business that have not had any materially adverse effect, either
individually or in the aggregate, on the business or financial condition of the
Borrower, and (b) changes resulting from the making of the Loan and the
transactions contemplated by the Loan Agreement.

 

3. No Materially Adverse Contracts, Etc. The Borrower is not subject to any
charter, organizational, or other legal restriction, or any judgment, decree,
order, rule or regulation, that has or is expected, in the reasonable judgment
of the Borrower’s members, managers, officers and directors, in the future to
have a materially adverse effect on the business, assets or financial condition
of the Borrower. The Borrower is not a party to any contract or ,agreement that
has or is expected, in the reasonable judgment of the Borrower’s officers and
directors, to have any materially adverse effect on the business, assets of
financial condition of the Borrower.

 

Date:   IRVINE SENSORS CORPORATION   By:  

 

  Name:   John Stuart   Title:   CFO

 

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