** **

**UNITED STATESSECURITIES AND EXCHANGE COMMISSIONWashington, D.C. 20549**

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**FORM 10-K**

**x**                              ANNUALREPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIESEXCHANGE ACT OF 1934

**Forthe fiscal year ended November 30, 2006**

**OR**

**o**                                 TRANSITIONREPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

**For the transition periodfrom                    to**

** **

**Commission File Number 0-22972**

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**CELLSTAR CORPORATION**(Exactname of registrant as specified in its charter)

| **Delaware**                                                     |   | **75-2479727**                        |
|------------------------------------------------------------------|--------|---------------------------------------|
| (State or other  jurisdiction of  incorporation or organization) |   | (I.R.S. Employer  Identification No.) |
|                                                             |   |                                  |
| **601 S.  Royal Lane  Coppell, Texas**                           |   | **75019**                             |
| (Address of  principal  executive offices)                       |   | (Zip Code)                            |

** **

Registrant’s telephone numberincluding area code:**(972) 462-2700**

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Securities registeredpursuant to Section 12(b) of the Act: 

| ******Title of each class** |   | **Name of  each exchange on  which registered** |
|-----------------------------|--------|-------------------------------------------------|
| None                        |   | N/A                                             |

** **

Securities registeredpursuant to Section 12(g) of the Act:**Common Stock, par value $0.01 per share**(Title of Class)

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Indicate by check mark if the registrant is awell-known seasoned issuer, as defined in Rule 405 of the SecuritiesAct.    Yes  o    No  x

Indicate by check mark if the registrant is notrequired to file reports pursuant to Section 13 or Section 15(d) ofthe Exchange Act.    Yes  o    No  x

Indicate by check mark whether the registrant(1) has filed all reports required to be filed by Section 13 or 15(d)of the Securities Exchange Act of 1934 during the preceding 12 months (or forsuch shorter period that the registrant was required to file such reports), and(2) has been subject to such filing requirements for the past 90days.    Yes  x    No  o

Indicate by check mark if disclosure of delinquentfilers pursuant to Item 405 of Regulation S-K is not contained herein, andwill not be contained, to the best of registrant’s knowledge, in definitiveproxy or information statements incorporated by reference in Part III of thisForm 10-K or any amendment to this Form 10-K.  o

Indicate by check mark whether the registrant is alarge accelerated filer, an accelerated filer, or a non-accelerated filer. Seedefinition of “accelerated filer and large accelerated filer” in Rule 12b-2 ofthe Exchange Act. (check one)

Large accelerated filer  o    Accelerated filer  x    Non-acceleratedfiler  o

Indicate by check mark whether the registrant is ashell company (as defined in Rule 12b-2 of the ExchangeAct).    Yes  o     No  x

The aggregate market value of the registrant’s commonstock held by non-affiliates of the registrant as of May 31, 2006, thelast business day of the Company’s most recently completed second fiscalquarter, based on the closing sale price of $3.23 as reported by the NasdaqNational Market on May 31, 2006, was approximately $56,379,198 (for purposes ofdetermination of the above stated amounts, only directors, executive officersand 10% or greater stockholders have been deemed affiliates).

On February 6, 2007, there were 21,158,740 outstandingshares of common stock, $0.01 par value per share, and the closing sales pricewas $2.72 as quoted on the Pink Sheets®.

**DOCUMENTS INCORPORATED BY REFERENCE**

Portions of the Company’s definitive Proxy Statement to be delivered tostockholders in connection with its Annual Meeting of Stockholders to be heldin 2007 are incorporated by reference into Part III.

 

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**CELLSTAR CORPORATION**

**INDEX TO FORM 10-K**
|                    | ** ** | ** **                                                                                                         | ** ** | **Page  Number** |
|--------------------|------------|--------------------------------------------------------------------------------------------------------------------|------------|------------------|
| **PART I.**   |       |                                                                                                               |       |             |
| Item 1.       |       | Business                                                                                                           |       | 3                |
| Item 1A.      |       | Risk  Factors                                                                                                      |       | 13               |
| Item 1B.      |       | Unresolved Staff Comments                                                                                          |       | 19               |
| Item 2.       |       | Properties                                                                                                         |       | 20               |
| Item 3.       |       | Legal  Proceedings                                                                                                 |       | 20               |
| Item 4.       |       | Submission of Matters to a Vote of Security Holders                                                                |       | 20               |
|               |       |                                                                                                               |       |             |
| **PART II.**  |       |                                                                                                               |       |             |
| Item 5.       |       | Market for Registrant’s Common Equity, Related  Stockholder Matters and Issuer Purchases of Equity Securities |       | 21               |
| Item 6.       |       | Selected Consolidated Financial Data                                                                               |       | 23               |
| Item 7.       |       | Management’s Discussion and Analysis of Financial  Condition and Results of Operations                        |       | 25               |
| Item 7A.      |       | Quantitative and Qualitative Disclosures About Market  Risk                                                        |       | 41               |
| Item 8.       |       | Consolidated Financial Statements and Supplementary  Data                                                          |       | 41               |
| Item 9.       |       | Changes in and Disagreements with Accountants on  Accounting and Financial Disclosure                              |       | 41               |
| Item 9A.      |       | Controls and Procedures                                                                                            |       | 41               |
| Item 9B.      |       | Other  Information                                                                                                 |       | 44               |
|               |       |                                                                                                               |       |             |
| **PART III.** |       |                                                                                                               |       |             |
| Item 10.      |       | Directors and Executive Officers of the Registrant                                                                 |       | 44               |
| Item 11.      |       | Executive Compensation                                                                                             |       | 44               |
| Item 12.      |       | Security Ownership of Certain Beneficial Owners and  Management and Related Stockholder Matters                    |       | 44               |
| Item 13.      |       | Certain Relationships and Related Transactions                                                                     |       | 44               |
| Item 14.      |       | Principal Accounting Fees and Services                                                                             |       | 44               |
|               |       |                                                                                                               |       |             |
| **PART IV.**  |       |                                                                                                               |       |             |
| Item 15.      |       | Exhibits, Financial Statement Schedules                                                                            |       | 45               |
| Signatures         |       |                                                                                                               |       | 51               |

 

 

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PART I.

**Item 1. Business**

CellStar Corporation is a leading distributor ofwireless products and provider of distribution and value-added logisticsservices to the wireless communications industry, serving network operators,agents, resellers, dealers, and retailers with operations in the North Americanand Latin American Regions.  We providecomprehensive logistics solutions and facilitate the effective and efficientdistribution of handsets, related accessories and other wireless products fromleading manufacturers to network operators, agents, resellers, dealers andretailers. We also provide activation services in some of our markets thatgenerate new subscribers for wireless carriers. We derive substantially all ofour revenues from net product sales, which include sales of handsets and otherwireless communications products. We also derive revenues from value-addedservices, including activations, residual commissions, and prepaid wirelessservices, none of which accounted for 10% of consolidated revenues in fiscal2006. Value-added service revenues include fulfillment service fees, handlingfees and assembly revenues. Activation income includes commissions paid to usby a wireless carrier when a customer initially subscribes for the carrier’swireless service through us. Residual commissions include payments receivedfrom carriers based on the wireless handset usage by a customer that weactivate. The terms “CellStar,” “the Company,” “we,” “our” and “us” refer toCellStar Corporation and its consolidated subsidiaries, unless the contextsuggests otherwise.

Our North American Region consists of the UnitedStates, excluding the Company’s Miami, Florida operations (the “U.S.”). OurLatin American Region consists of Mexico, Chile and the Company’s Miami, Floridaoperations. As of January 2006, our corporate headquarters (“Corporate”) hasmoved from Carrollton, Texas to Coppell, Texas.

*Proposed Sale of U.S., Miami and Mexico Operations*

On December 18, 2006, we entered into a definitiveagreement (the “U.S. Sale Agreement”) with a wholly owned subsidiary ofBrightpoint, Inc., an Indiana corporation (“Brightpoint”), providing for thesale (the “U.S. Sale”) of substantially all of our United States andMiami-based Latin American operations and for the buyer to assume certainliabilities related to those operations. Our operations in Mexico and Chile andother businesses or obligations of CellStar are excluded from the proposedtransaction.

The Boards of Directors of both CellStar andBrightpoint unanimously approved the proposed transaction set forth in the U.S.Sale Agreement. Under the terms of the proposed transaction, the buyer will pay$88 million in cash to CellStar, subject to adjustment based on changes in netassets.  The closing of the proposed transaction is expected to occur bythe end of March, but no later than May 31, 2007.

Also on December 18, 2006, we entered into adefinitive agreement (the “Mexico Sale Agreement”) with SolucionesInalámbricas, S.A. de C.V. (“Wireless Solutions”) and Prestadora de Serviciosen Administración y Recursos Humanos, S.A. de C.V. (“Prestadora”), twoaffiliated Mexican companies, providing for the sale (the “Mexico Sale”) of allof our Mexico operations. The proposed purchase is a stock acquisition of allof the outstanding shares of our Mexican subsidiaries, and will include ourinterest in Comunicación Inalámbrica Inteligente, S.A. de C.V. (“CII”), ourjoint venture with Wireless Solutions. Under the terms of the proposed transaction, CellStar will receivebetween $20 to $22 million in cash, based on the 2007 operating performance ofthe operations up to the closing date.

Pursuant to the Mexico Sale Agreement, the Mexicobuyers may, upon three days’ notice to CellStar, elect an alternate transactionwhereby CellStar will receive $13.0 million for our 51% interest in CII.  In this event, CellStar would be entitled toits pro rata share of CII profits from January 1, 2007 up to the consummationof the alternate transaction.  CellStarwould retain ownership of  the remainingsubsidiaries including the primary operating subsidiary in Mexico, CelularExpress S.A. de C.V. (“CELEX”).  If wechoose to liquidate those operations, CII has agreed to assist in disposing ofthe inventory and collecting the accounts receivable of the remainingoperations.

The Board of Directors of CellStar unanimouslyapproved the proposed transaction set forth in the Mexico Sale Agreement. Theclosing of the Mexico Sale Agreement is expected to occur by the end of March,but no later than May 31, 2007.

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The Company filed a preliminary proxy statement withthe SEC on January 23, 2007, which more fully describes the proposedtransactions.  Both of the proposedtransactions are subject to customary closing conditions and the approval ofthe Company’s stockholders and the transactions are not dependent upon eachother.  The Company’s operations in Chileare not part of the proposed transactions, and the Company intends to divestits Chile operations in a yet undetermined transaction.  Also included in the proxy statement is aproposed plan of dissolution, which provides for the complete liquidation anddissolution of CellStar after the completion of the U.S. Sale.  If the plan of dissolution is approved by ourstockholders, we plan to wind up our business and file a certificate ofdissolution no earlier than seven months following the close of the U.S. Sale,and distribute our remaining assets to our stockholders after satisfying all ofour liabilities.

Upon the closing of the U.S. Sale, we will use theproceeds to pay off the Amended Facility and the Term Loan. In the event theMexico Sale closes without the proceeds from the U.S. Sale, we would berequired to obtain acceptable consents from our lenders.

*Other Developments in 2006*

In February 2006, the Company received from theSEC a subpoena requiring production of certain documents relating to theCompany’s Asia-Pacific Region, which the Company exited in September 2005.The subpoena was issued in connection with a fact-finding inquiry under aformal order of investigation issued by the SEC. The Company is cooperatingfully with the SEC in this matter. The Company was advised in the Commission’sletter sent with the subpoena that the Commission’s investigation and subpoenado not mean that the Commission or its staff has concluded that CellStar oranyone else has broken the law, nor that the Commission or its staff has a negativeopinion of any person, entity or security. The Company is unable to predict theoutcome of the investigation, the scope of matters that the SEC may choose toinvestigate in connection with the subpoena, the SEC’s views of the issuesabout which it is inquiring, or any action that the SEC might take.

As of March 31, 2006, we entered into an Amended &Restated Loan and Security Agreement (the “Amended Facility”) with Wells FargoFoothill, Inc.   The Amended Facilityamends the term of the previous loan and security agreement until September 27,2009.

On August 31, 2006, we entered into a Term Loanand Security Agreement (the “Term Loan”) with CapitalSource Finance LLC (“CapitalSource”).Pursuant to the Term Loan, CapitalSource agreed to provide us with thefinancing to purchase and/or redeem our 12% Senior Subordinated Notes dueJanuary 2007 (the “Senior Notes”).  InSeptember 2006, the Company redeemed $10.5 million of the Senior Notes at a onepercent discount. On December 15, 2006, we redeemed the remaining $1.9million of the Senior Notes at par. CapitalSource provided the funding for the purchase and redemption ofthe Senior Notes as described above.

*Our Business*

We serve the wireless industry by helping ourcustomers get wireless products to their customers. Our business concentratesprimarily on distribution and logistics. We deliver handsets and relatedaccessories from the manufacturers to carriers, other distributors, retailers,and consumers. We assist the manufacturers in expanding their distributionnetwork and customer base. Our fulfillment, kitting, packaging, and otherservices assist the carriers in getting the handsets ready for use by theirsubscribers. Our distribution services include purchasing, selling,warehousing, picking, packing, shipping and “just-in-time” delivery of wirelesshandsets and accessories. We also offer one of the industry’s first completelyintegrated asset recovery and logistics services, our Omnigistics® (patent pending) supply chain managementsystem. In addition, we offer value-added services, including Internet-basedsupply chain services via our OrderStar® system (patentpending), Internet-based tracking and reporting, inventory management,marketing, prepaid wireless products, product fulfillment, kitting andcustomized packaging, private labeling, light assembly, accounts receivablemanagement and end-user support services. We also provide wireless activationservices and operate retail locations in certain markets from which we sellwireless communications products and accessories directly to the public.

Our customers include large carriers, rural carriers,agents, mobile virtual network operators (MVNOs), big box and small retailers,distribution companies, and insurance warranty providers. We market our productsto wholesale purchasers using, among other methods, direct sales strategies,the Internet, strategic account management, trade shows and trade journaladvertising. We offer a variety of name brand products, comprehensive forwardand reverse logistics solutions, highly-responsive customer service,merchandising and marketing elements and access to hard-to-find products topotential new and existing customers.

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The Company, a Delaware corporation, was formed in1993 to hold the stock of National Auto Center, Inc. (“National Auto Center”),a company that is now an operating subsidiary. National Auto Center wasoriginally formed in 1981 to distribute and install automotive aftermarketproducts. In 1984, National Auto Center began offering wireless communicationsproducts and services. In 1989, National Auto Center became an authorizeddistributor of Motorola wireless handsets in certain portions of the UnitedStates. National Auto Center entered into similar arrangements with Motorola inthe Latin American Region in 1991.  OnNovember 20, 2006, we entered into a new distribution agreement with Motorolafor the North American Region.  Duringfiscal 2006, the Company also maintained agreements with other manufacturers,including LG Electronics MobileComm U.S.A., Inc. (“L.G.”), Nokia, Inc. (“Nokia”),Kyocera Wireless Corp. (“Kyocera”), Palm, Inc. (“Palm”) and Pantech Co., Ltd. (“Pantech”).

Wireless communications technology encompasseswireless communications devices such as handsets, personal digital assistants, “smartphones,” instant messaging devices and two-way radios. Accessories such ashands-free headsets, chargers, cases and batteries are also popular items forthe wireless user. Increasingly, replacement handsets are driving the market.Handsets with video capability, and improved digital camera, music and datacapabilities have driven consumer demand for replacement handsets. In addition,we believe that the emergence of new and improving technologies, includingportable multi-media devices, should create opportunities in the wirelessmarket as users continually strive to stay connected while remaining mobile.

Along with the changes in technology, we believe theindustry in which we compete is changing. Through the middle to late 1990’s, webelieve that a substantial portion of carrier activations in the U.S. camethrough independent agents and resellers of wireless products. Historically inthe U.S., distributors of wireless handsets such as CellStar providedmanufacturers and carriers with a much needed distribution channel to reachthese independent agents and resellers. Today, the number of activationsoriginating through independent channels such as these have decreased, andmajor carriers have limited the role of handset distributors such as CellStar.Also, the emergence of national retailers as sellers of handsets has furtherlimited the role of handset distributors, since most national retailerspurchase their products directly from the manufacturers or carriers. The onlyremaining carriers who place significant reliance on handset distributors arerural carriers, which remain our core business in the U.S. The rural carrierchannel is also experiencing consolidation, however. Two of the largest ruralcarriers, which were also customers of CellStar, Western Wireless and MidwestWireless, were acquired in 2005 and 2006, respectively, and subsequently ceasedbuying products and services from us. We believe that industry consolidation inthe U.S. will continue to occur. In Latin America, consolidation has alsooccurred, with both Telefonica Moviles, S.A., the parent company of TelefonicaMoviles Colombia, S.A.  (“Telefonica”)and America Movil, the parent company of Radio Movil Dipsa S.A. de C.V. (“Telcel”),acquiring many smaller carriers that comprised our customer base. Thiscontinued trend toward consolidation has increased competition among handsetdistributors and placed continued downward pressure on margins. In addition, asmargins on handset sales continue to decrease, we believe that handset manufacturersmay begin to sell directly to more customers, including some of our customersin the rural carrier channel.

As a result, large U.S. handset distributors beganexpanding their operations geographically into new international markets andseeking new product and service lines to diversify their operations. Due to ourliquidity limitations, we do not have the financial or management resources toembark on an aggressive international expansion program or to pursue otherbusiness opportunities such as logistics services. In addition, our attempts toexpand our product lines have had only limited success. Our expansion into theinsurance replacement business with lock/line LLC was successful for a periodof time, with lock/line becoming our largest customer in the U.S. However,lock/line completed its merger with Asurion Corporation in early 2006, and inApril 2006 Asurion took in-house the business previously performed byCellStar. Our efforts to launch new products and to add other manufacturers toour handset product list have not generated significant revenue.

Our customer base is also concentrated.  For the fiscal year ended November 30, 2006,Dobson Cellular Systems, Inc. (“Dobson”) accounted for approximately 20% of ourtotal U.S. revenues and Telefonica accounted for approximately 59% of our totalMiami revenues.  In our Mexicooperations, approximately 76% of our revenues were generated by Telcel, orTelcel related customers.  In Chile,approximately 95% of our 2006 revenues were from one carrier customer.  As a result, the Company remains vulnerableto a significant and dramatic loss of revenues in the event it should lose anyadditional major customer.

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Despite our return to profitability in 2006, loss ofcustomers has negatively impacted our profitability and ability to obtainadditional financing. We were able to extend our previous credit facility usedto fund our ongoing operations in the U.S., however, funding availability underthe Amended Facility is limited by a borrowing base test, which is measuredweekly on eligible domestic accounts receivable and inventory. Our liquidityhas limited our ability to make much needed capital investments, for example,in IT systems that would allow us to compete more effectively for new businessand customers.

These financial and operating issues have limited theCompany’s ability to address competitive pressures and to pursue newopportunities and were among the factors that have led our board of directorsto conclude that the proposed sale of our U.S., Miami and Mexico operations areadvisable and in the best interests of our stockholders.

 *Financial Information*

The Company’s consolidated financial statements andaccompanying notes, which include certain business segment and geographicinformation for the last three fiscal years, can be found in Part IV of thisForm 10-K.

*North American Region*

The Company believes growth in the U.S. will beincreasingly driven by replacement sales, as penetration is estimated at over70% in the region. In 2006, the U.S. wireless market saw continuedconsolidation, with larger carriers acquiring smaller carriers. As nationwidecarriers get larger and gain market share, smaller wireless carriers arefighting to remain competitive. These trends may also lead to financial instabilityfor some of our regional carrier customers. This smaller, regional carrier segment represented 67% of our revenuesin the North American Region in 2006. In addition, the wireless industry sawconsolidation in areas other than the carrier segment, and some of ourcustomers were affected by consolidation. Further consolidation in the wirelessindustry could have a material adverse impact on our business.

Our North American Region generated operating incomeof $1.5 million, $5.5 million and $15.4 million for the years endedNovember 30, 2004, 2005, and 2006, respectively. However, revenues havedeclined from $462.6 million in 2005 to $408.5 million in 2006.  In addition, revenues for the first half of2006 were $224.3 million compared to $184.2 million for the second half of2006.  Although the region improvedprofitability in 2006, due to our declining revenues, the limitations on theborrowing base in our Amended Facility, our concentrated customer base andother reasons, we lack the necessary access to capital to significantly expandour business.

We offer a broad product mix in the United States,including handsets and related accessories, smartphones, expandable memorycards and wireless PC cards.  We offerwireless handsets and accessories manufactured by OEMs, such as Motorola, LG,Kyocera, Palm and Nokia and aftermarket accessories manufactured by a varietyof suppliers. Our revenues in the North American Region are generated primarilyfrom handset and accessory sales. In fiscal 2006, we narrowed our focus onaccessories, and have concentrated primarily on OEM branded accessoriesfeaturing Bluetooth® wireless technology and datacapabilities.  We anticipate that ourproduct offerings will continue to expand with the evolution of newtechnologies as they become commercially viable.

We distribute products through direct-to-retailerfulfillment, direct-to-consumer fulfillment and direct-to-distributorfulfillment of both handsets and accessories. We also offer value-addedservices such as advanced exchange and other consumer exchange programs,returns management and asset recovery, repair and refurbishment, channeldevelopment, warranty claims management, inventory management, inventorypurchasing, warehousing, shipping, custom packaging and kitting, programming,one-off fulfillment, channel management systems, web-enabled systemsintegration solutions and on-line ordering and reporting to our customers. Inaddition, we provide private labeling services for handsets and accessories toseveral major regional carriers.

Our distribution operations and value-added servicescomplement the manufacturer distribution channels by allowing the manufacturersto distribute their products to smaller volume purchasers and retailers. AtNovember 30, 2006, we sold products to over 1,000 customers in the NorthAmerican Region, the ten largest of which accounted for approximately 28% ofconsolidated revenues.

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In the North American Region, we feature ourOmnigistics® (patent pending) logistics system. TheOmnigistics® system, a comprehensive reverse and forwardlogistics solution, offers asset tracking and management processes, fromadvanced exchange and direct-to-consumer programs to bulk fulfillment andretail-ready solutions that include kitting, packaging and programming.  We also serve our customers through ourOrderStar® and CellStar netXtreme® systems. These systems are proprietary,Internet-based order entry and supply-chain services software and systems basedon XML SOA technologies designed to assist customers in the submission andtracking of orders and to allow customers to analyze their business activitieswith CellStar through the creation of customized reports. The OrderStar® on-line ordering system enhances the CellStarcustomer experience by offering faster product navigation and streamlinedcheckout procedures, private labeling capabilities, and marketing andadvertising opportunities. Together, the OrderStar® andCellStar netXtreme® systems greatly enhance a customer’s abilityto actively manage inventories and reduce supply-chain delays while reducingthe cost to CellStar of fulfilling their orders.

In March of 2006, CellStar transitioned customers tothe CellStar Integrated Order System, or CIOS. This new capability affordscustomers the ability to submit orders and retrieve their status utilizing theEAI (Enterprise Application Integration) capabilities of BEA WeblogicIntegration.  Today, over 85% of allorders CellStar receives in the U.S. are in electronic form via our OrderStar® on-line ordering system, CIOS,or electronic data interchange (EDI). In addition, we assist customers indeveloping e-commerce platforms and solutions which in many cases are unique totheir operations, and which are designed to enhance sales, and reduce productdelivery and activation delays.

Currently, we provide insurance replacement servicesto our customers on a limited basis. Lock/line LLC, our largest customer in the Region in fiscal 2005 andwhich accounted for $115.0 million of revenues, was our primary consumer ofthese services.  For 2006, lock/lineaccounted for $50.5 million or 12% of North American Region revenues and 5% ofconsolidated revenues.  Following themerger with Asurion, however, revenues from lock/line were only $5.8 millionfor the last six months of 2006.

We use several marketing strategies throughout theNorth American Region, including trade shows, trade magazine advertising,direct mail, telemarketing, public relations, e-marketing, training programs,rebate promotions, and incentive programs with customers and manufacturers.

 *Latin American Region*

We believe that demand for wireless communicationsservices in the Latin American Region has been and should continue to be drivenby an unsatisfied demand for basic phone service due to the lack of adequatelandline service and limited wireless penetration. We believe that wirelesssystems in this region offer a more attractive alternative to landline systemsbecause wireless systems do not require the substantial amount of time andinvestment in infrastructure (in the form of buried or overhead cables)associated with landline systems.

In the Latin American Region, operating income was$7.6 million, $8.7 million and $12.6 million for the years endedNovember 30, 2004, 2005 and 2006, respectively. For 2004 and 2005, theregion was the Company’s largest source of operating income.

In the Latin American Region, we offer wirelesshandsets, related accessories, pre-paid phone cards, and other wirelessproducts manufactured by OEMs, such as Motorola, Nokia, LG and Pantech., andaftermarket accessories manufactured by a variety of suppliers to carriers,department stores, wholesalers, big-box retailers and other retailers. InMexico, we also provide activation services for carriers and are a reseller ofairtime. Through our Miami, Florida operations, we act as a wholesaledistributor of wireless communications products in Latin America to largevolume purchasers, such as wireless carriers, as well as to smaller volumepurchasers. As a result, our Miami operations are included in the LatinAmerican Region. Our Chile operations also provide repair services anddistributed electronic devices such as DVD players, MP3 players and CD playersduring fiscal 2006.

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The majority of our revenues in the Latin AmericanRegion come from three major carrier customers. In fiscal 2006, approximately59% of the revenues of our Miami operations were generated by Telefonica. Inour Mexico operations, approximately 76% of our revenues were generated byTelcel, or Telcel related customers. In our Chile operations, approximately 95%of our revenues were generated from one carrier customer.  Telefonica and Telcel each contributed morethan 10% of our revenues on a consolidated basis. Our contract with Telcel,which was originally signed in 1992, has a five-year term that automaticallyrenews for successive five-year terms. Telcel can cancel the agreement at anytime with thirty days notice. The next renewal date is July 1, 2007. We donot currently have an agreement with Telefonica.  Although we believe that our relationshipwith Telefonica and Telcel are good, the loss of either customer would have amaterial adverse effect on our business on a consolidated basis.

Our business in the Latin American Region ispredominantly wholesale and value-added fulfillment services, including handsetprogramming and software upgrades, packing, stocking, kitting, one-offshipping, procurement, warehousing, and distribution. In addition, we conductretail operations in Mexico and Chile. At November 30, 2006, CellStaroperated 41 retail locations (including kiosks) in the Latin American Region,18 of which were located in Chile and 23 of which were located in Mexico. Wealso sell private label products to Telcel in Mexico.

The following table contains the countries in whichoperations were conducted in the Latin American Region in fiscal 2006:

| Country    | ** ** | **Year  Entered** | ** ** | **Type of Operation**                   | ** **                                |
|------------|------------|-------------------|------------|---------------------------------------------------|-------------------------------------------|
| ** ** | ** ** | ** **        | ** ** | **(as of November 30, 2006)** | ** **                                |
| Mexico     |       |              | 1991       |                                              | Wholesale  and Retail                     |   |
| Chile      |       |              | 1993       |                                              | Service  and Repair, Wholesale and Retail |   |
| Miami      |       |              | 1993       |                                              | Wholesale                                 |   |

 

As of November 30, 2006, we sold our products toapproximately 80 wholesale customers, including subagents, in the LatinAmerican Region. The ten largest customers accounted for approximately 50% ofour consolidated revenues in fiscal 2006. The Company offers a broad productmix in the Latin American Region.

In April 2005, in order to increase its activationbusiness and further strengthen the relationship with Telcel, the Company’ssubsidiary in Mexico, CELEX, invested in a joint venture with WirelessSolutions and its individual partners for $4.1 million. The $4.1 millionconsisted of $1.1 million in cash paid at closing, the conversion of a $2.0million receivable and a $1.0 million note which was paid in August 2005through the conversion of an additional $1.0 million of accounts receivable.The joint venture, which operates under the name Comunicacion InalambricaInteligente, S.A. de C.V. (“CII”), provides handset distribution and activationservices for Telcel, the largest cellular phone carrier in Mexico. CELEX owns51% of CII and the remaining 49% is owned by the individual partners ofWireless Solutions. The results of operations of CII are consolidated in theCompany’s accompanying consolidated financial statements. As additionalconsideration for its 51% interest in CII, CELEX is committed to pay anadditional $4.0 million to the individual partners of Wireless Solutions,payable in the form of a cumulative preferred dividend, of the earnings of CIIwhich otherwise would be distributed to CELEX. No earnings shall be distributedto CELEX as long as any portion of the preferred dividend remains unpaid.  As of November 30, 2006, $0.4 million of thepreferred dividend had been paid to the individual partners of WirelessSolutions.  At November 30, 2006, $2.0 millionof minority interest was accrued related to the 49% interest held by theindividual partners of Wireless Solutions. The calendar 2006 preferred dividend will be distributed following theexpected completion of the annual statutory accounts for CII in March 2007.

As discussed in the overview, on December 18, 2006, weentered into an agreement to sell our Mexico operations.  Pursuant to the Mexico Sale Agreement, theMexico buyers may, upon three days’ notice to CellStar, elect an alternatetransaction whereby the Mexico buyers will acquire only CellStar’s 51% interestin CII for $13.0 million.  If thealternate transaction were to occur, CellStar would retain ownership of CELEXand, if we chose to liquidate CELEX,

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CII hasagreed to assist in disposing of the inventory and collecting the accountsreceivable of CELEX.  Under eithertransaction, no preferred dividend accrues to Wireless Solutions after therequired calendar 2006 dividend.  If thealternate transaction option is exercised, CellStar would be entitled to itspro rata share of CII profits from January 1, 2007, up to the consummation ofthe alternate transaction.

In the Latin American Region, we market our productsthrough trade shows, trade magazines, direct sales and advertising. We usedirect mailings, newspapers retail and store magazines to promote our retailoperations. To penetrate local markets, we have made use of subagentrelationships in certain countries.

*Industry Relationships*

We have established relationships with leadingwireless equipment manufacturers and wireless service carriers. Although wepurchased our products from more than 20 suppliers in fiscal 2006, 65% of theCompany’s purchases were from Motorola.

We have agreements with many of our suppliers,including Motorola, LG, Nokia, Kyocera and Palm, or their foreign affiliates,that specify territories, pricing and payment terms. These contracts typicallyprovide us with “price protection,” or the right to receive the benefit ofprice decreases on products currently in our inventory if we purchased theseproducts within a specified period of time prior to the effective date of theprice decrease.

Our agreements with our suppliers generally haveone-year terms with automatic renewals of successive one-year terms unlessnotice of non-renewal is given. Other agreements, such as Kyocera, expire atvarious times and must be extended in writing by the parties. The majority ofthese supplier agreements can be terminated without cause by the terminatingparty giving notice within periods ranging from 30 to 90 days prior to suchtermination.  Other agreements, such asthose with Kyocera and LG, however, may be terminated only for cause. Most ofthe agreements with suppliers are non-exclusive. We are required, pursuant tocertain supplier agreements, to submit forecasts on a rolling basis, withforecast periods ranging from three to twelve months. Most of these estimatesare on a best efforts basis, however, in some cases a portion of theseforecasts may be binding. Some suppliers base pricing on the level of volumecommitments we are able to achieve.

Our business depends upon several factors, one ofwhich is our relationship with Motorola, our largest supplier in 2006, andhistorically one of the largest manufacturers of wireless products in theworld. Due to the delays in filing our Annual Report on Form 10-K for fiscal2004 and reporting our operating results, we experienced some tightening ofcredit with our vendors, including Motorola, during 2005. Following the end offiscal 2005, Motorola increased our trade credit lines. On November 20, 2006,we entered into a new distribution agreement with Motorola for the NorthAmerican Region which automatically renews for successive one-year terms unlessterminated pursuant to the agreement.  Wecontinue to extend our Latin American Region agreement periodically, andrecently extended the agreement through March 31, 2007.

The loss of Motorola or any other significant vendor,a substantial price increase or decrease imposed by any vendor, a shortage oroversupply of product available from our vendors or renewed tightening of tradecredit terms by our vendors could have a material adverse impact on theCompany. We are dependent on maintaining open vendor credit lines on reasonableterms, particularly with Motorola. We cannot assure you that product shortages,product surpluses or renewed tightening of credit terms will not occur in thefuture.

Although we do not have agreements with the majorityof our customers, where agreements exist, they generally have terms rangingfrom one to three years, and can be extended for successive one year termsthereafter. Most agreements can be terminated by either party without cause bythe terminating party giving notice within periods ranging from 30 to 90 daysprior to such termination. While we believe our customer relations are good, wecannot assure you that we will retain our current customer base.

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*Asset Management*

Our suppliers ship directly to the Company’s warehouseor distribution facilities, or drop ship directly to our customers. Inventorypurchases are based on quality, price, service, market demand, productavailability and brand recognition. Some of our major vendors provide us withfavorable purchasing terms, including price protection credits, stockbalancing, increased product availability and cooperative advertising andmarketing allowances.

Inventory control is important to our ability tomaintain our margins while offering our customers competitive prices and rapiddelivery of a wide variety of products. We use our integrated managementinformation technology systems, specifically our inventory management,electronic purchase order and sales modules (consisting of one or more of ourOrderStar® and CellStar netXtreme® systems) in our Company’s North American andMiami operations to help manage inventory and sales margins.

Accounts receivable management is important to ourability to control our bad debt expense and working capital. We use creditmanagement tools, including credit scoring services in our North American andMiami operations, to manage our accounts receivable exposure.

We maintain certain customer accounts that follow aconsignment model. Under this model, the customer owns the inventory, and weprovide fulfillment services for those products. Fulfillment services includeany combination of kitting, programming, inventory management and packaging ofhandsets, wireless accessories and other items, as well as the distribution ofsuch products. Consignment offers certain advantages, including lower workingcapital requirements, reduced accounts receivable exposure and reduced exposureto inventory obsolescence. Although overall revenues may be lowered as a resultof operating on a consignment model, we believe that net income is notsignificantly impacted as fulfillment fees are being generated.

Under the terms of our agreements with our consignmentcustomers, title to the products remains with the customer. We bear all risk ofcasualty loss with respect to consignment products while such products remainin our care, custody and control. These agreements generally have terms fromone to three years, and may be extended for successive one year termsthereafter. Most agreements can be terminated by either party without cause bythe terminating party giving notice within periods ranging from 10 to 90 daysprior to such termination. In some agreements, our customers provide productforecasts on a rolling three-month basis; however, those forecasts are on abest efforts basis. In some cases, we may charge the customer a storage fee forproducts we hold for an excessive period of time, generally 90 days or more.

The market for wireless products is characterized byrapidly changing technology and frequent new product introductions, oftenresulting in product obsolescence or short product life cycles. Our successdepends in large part upon our ability to anticipate and adapt our business tosuch technological changes. We cannot assure you that we will be able toidentify, obtain and offer products necessary to remain competitive or thatcompetitors or manufacturers of wireless communications products will notmarket products that have perceived advantages over our inventories or thatrender the products we sell less marketable or obsolete. We maintain asignificant investment in our product inventory and, therefore, we are subjectto the risks of excessive inventory levels and inventory obsolescence. Weattempt to limit these risks by managing inventory turns and by entering intoarrangements with our vendors for price protection credits and returnprivileges for slow-moving products. In some instances, we have agreements withour customers requiring them to purchase slow moving inventory which we hadpurchased based on forecasts submitted by the customers.  Our significant inventory investment in ourinternational operations exposes us to certain political and economic risks.See “Item 1A.-Risk Factors.” Typically, we ship our products within onebusiness day of receipt of customer orders and, therefore, backlog is notconsidered relevant to our business.

*Significant Trademarks*

We market certain products under the trade name “CellStar.”We have registered the trade name “CellStar” on the Principal Register of theUnited States Patent and Trademark Office and have registered or applied forregistration of our trade name in certain foreign jurisdictions. The Companyhas also filed for registrations of its other trade names and trademarks,including the OrderStar® and Omnigistics®  trademarks,in the United States and other jurisdictions in which we do business.

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*Competition*

We operate in a highly competitive environment andbelieve that such competition will intensify in the future. We competeprimarily on the basis of inventory availability and selection, price, deliverytime and service. Many of our competitors are larger and have greater capitaland management resources than we do. Increasingly, we expect manufacturers tomove to a direct-to-retail model. In addition, potential users of wirelesssystems may find their communications needs satisfied by other current anddeveloping technologies. Our ability to remain competitive will therefore dependupon our ability to anticipate and adapt our business to such technologicalchanges. There can be no assurance that we will be successful in anticipatingand adapting to such technological changes.

In the current U.S. wireless communications productsmarket, our primary competitors are manufacturers, wireless carriers and otherindependent distributors such as Brightpoint, Inc. and Brightstar Corporation.We also compete with insurance third party administrators and providers ofretail extended warranties, such as Aftermarket Technology Corp. and AsurionCorporation, and with logistics companies that provide similar distribution andinventory management services. In Latin America, we compete with othervalue-added distribution services providers such as Brightstar Corporation andInfosonic Corp. Our competitors in the Latin American Region also includemanufacturers, national carriers that have retail outlets with direct end-useraccess, and U.S. and foreign-based exporters and distributors. We are alsosubject to competition from gray market activities by third parties that arelegal, but are not authorized by manufacturers, or that are illegal (e.g.,activities that avoid applicable duties or taxes). In addition, we compete foractivation fees and residual fees with agents and subagents for wirelesscarriers.

*Seasonality and Cyclicality*

The effects of seasonal fluctuations have nothistorically been apparent in our operating results due to a number of factorsin the different countries and markets in which we operate, including thepurchasing patterns of customers in different markets, product promotions ofcompetitors and suppliers, availability of distribution channels, and productsupply and pricing. Our sales are also influenced by cyclical economicconditions in the different countries and markets in which we operate. Aneconomic downturn in one of our principal markets could have a material adverseeffect on our operating results.

*Employees*

At November 30, 2006, the Company hadapproximately 700 permanent and 1,450 temporary employees worldwide. In Mexicoand Chile, certain of our employees are subject to labor agreements. We havenever experienced any material labor disruption and we are unaware of anyefforts or plans to organize additional employees. Management believes that itslabor relations are satisfactory.

*Executive Officers of the Registrant*

The following table sets forth the names, ages, andtitles of executive officers of the Company as of November 30, 2006:

 

| Robert A. Kaiser       |   | 53     |   | Chairman and Chief Executive Officer                                                  |
|------------------------|--------|--------|--------|---------------------------------------------------------------------------------------|
|                   |   |   |   |                                                                                  |
| Michael J.  Farrell    |   | 44     |   | Executive Vice President of Finance, Treasurer and  Chief Administrative Officer |
|                   |   |   |   |                                                                                  |
| Elaine Flud  Rodriguez |   | 50     |   | Senior Vice President, General Counsel and Secretary                                  |
|                   |   |   |   |                                                                                  |
| Raymond L.  Durham     |   | 44     |   | Senior Vice President and Chief Financial Officer                                     |
|                   |   |   |   |                                                                                  |
| Juan Martinez  Jr.     |   | 39     |   | Vice President and Corporate Controller                                               |

 

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Robert A. Kaiser was named Chairman of the Board inMay 2005. He has served as Chief Executive Officer since May 2004. He alsoserves as Chief Operating Officer, an office he has held since October 2003.Mr. Kaiser was promoted to President and Chief Operating Officer from hisformer title of Senior Vice President, Chief Financial Officer and Treasurer, aposition he held since joining the Company in December 2001. Prior to joiningCellStar, Mr. Kaiser served as President and Chief Executive Officer ofMobileStar Network Corporation, a provider of broadband wireless Internetaccess, from May 2001 to December 2001. Prior to joining MobileStar,Mr. Kaiser served as Chief Executive Officer of WorldCom BroadbandSolutions Group from August 2000 to May 2001. Mr. Kaiser served as ChiefExecutive Officer of SkyTel from January 2000 to August 2000 and as ChiefFinancial Officer from August 1996 to December 1999. Mr. Kaiser served asChief Financial Officer of Southwestern Bell’s Mobile Systems from March 1987to August 1996. Mr. Kaiser serves as an officer of the Company pursuant tohis employment agreement.

Michael J. Farrell joined the Company as ExecutiveVice President of Finance, Treasurer and Chief Administrative Officer inNovember 2005. From August 2005 until his employment in November 2005, heserved as a consultant to CellStar on issues relating to our Asia-PacificRegion and other matters. Prior to August 2005, Mr. Farrell spent 14 yearswith Motorola. During his tenure at Motorola, Mr. Farrell held a number ofimportant positions, including serving as CFO/Director of Finance for the AsiaPacific Cellular Division and CFO/Director of Finance for Motorola’s LatinAmerica Cellular Division. Mr. Farrell serves as an officer of the Companypursuant to his employment agreement.

Elaine Flud Rodriguez has served as Senior VicePresident, General Counsel and Secretary since January 2000. Previously,Ms. Rodriguez served as Vice President, General Counsel and Secretarysince joining the Company in October 1993. From October 1991 to August 1993,she was General Counsel and Secretary of Zoecon Corporation, a pesticide manufacturerand distributor owned by Sandoz Ltd. Prior thereto, she was engaged in theprivate practice of law with Atlas & Hall and Akin, Gump, Strauss,Hauer & Feld. Ms. Rodriguez is licensed to practice law in thestates of Texas and Louisiana. Ms. Rodriguez serves as an officer of theCompany pursuant to her employment agreement.

Raymond L. Durham has served as Senior Vice Presidentand Chief Financial Officer since May 2004 and was Treasurer from May 2004until November 2005. Previously, he served as Vice President and CorporateController from February 2001 until April 2004, Corporate Controller fromNovember 1999 until January 2001, and acting Corporate Controller from July1999 until November 1999. From March 1997 until July 1999, Mr. Durham servedas Director of Audit Services for the Company. Prior to joining the Company, hewas with KPMG, an international accounting firm, from 1986 until 1997 where heheld several positions including Audit Senior Manager from 1990 until 1997.Mr. Durham is a certified public accountant. Mr. Durham and theCompany’s U.S. operating subsidiary entered into a change of control agreementeffective March 30, 2005.

Juan Martinez Jr. has served as Vice President andCorporate Controller since June 2004. Prior to that, Mr. Martinez servedas Director of Corporate Accounting from October 2002 to May 2004, and asGeneral Accounting Manager from January 1999, when he joined the Company, toSeptember 2002. From 1991 to 1998, Mr. Martinez was with TrinityIndustries Inc., a manufacturing company where he held several positionsincluding Financial Reporting Manager. Mr. Martinez and the Company’s U.S.operating subsidiary entered into a change of control agreement effectiveMarch 30, 2005.

The Company does not maintain key man insurance on thelife of any officer of the Company. The loss or interruption of the continuedfull-time service of the Company’s executive officers and key employees couldhave a material adverse impact on the Company’s business. To support itscontinued growth, the Company must effectively recruit, develop and retainadditional qualified management. The inability of the Company to attract andretain such necessary personnel could also have a material adverse effect onthe Company.

 

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*Available Information and Code of Ethics*

We maintain an Internet website at www.cellstar.com.Our annual reports on Form 10-K, quarterly reports on Form 10-Q, currentreports on Form 8-K, and any amendments to these reports will be madeavailable, free of charge, at our website as soon as reasonably practicableafter we electronically file such reports with or furnish them to theSecurities and Exchange Commission.

We have adopted a code of ethics that applies to theChief Executive Officer, the Executive Vice President of Finance, the ChiefFinancial Officer and the Corporate Controller, as well as our directors, otherexecutive officers and all employees. Our Business Ethics Policy can be found at our Internet website at www.cellstar.com.

**Item 1A. Risk Factors**

Our future performance is subject to a variety ofrisks. If any of the events or circumstances described in the following riskfactors actually occurs, our business, financial condition or results ofoperations could suffer and the trading price of our common stock could benegatively affected. In addition to the following disclosures, please refer tothe other information contained in this report, including consolidatedfinancial statements and the related notes, and information contained in our otherSEC filings.

*Our business could be subject to increased risk ifwe do not obtain stockholder approval of the U.S. Sale and the Mexico Sale.*

We filed a preliminary proxy statement on January 23,2007 describing our proposals to sell substantially all of our assets in theU.S. and Miami operations to Brightpoint, and our operations in Mexico toWireless Solutions and Prestadora.  Inaddition, we proposed a plan of dissolution for the Company.  If the proposals are not approved, ourbusiness could be materially adversely affected as described below.

If our stockholders approve the U.S. Sale Agreementbut do not approve the Mexico Sale Agreement, we do not believe that operatingMexico by itself is a viable alternative because the Mexico operations alonewould not provide us with adequate scope and scale to remain a majordistributor, we would have financial difficulty remaining a publicly tradedentity, given the costs of compliance with SEC and the requirements of theSarbanes-Oxley Act of 2002, as amended (“Sarbanes-Oxley”), and we would beoperating in only one region with significant customer concentration, therebyincreasing the adverse impact of the loss of any of those customers. Therefore,we would either need to find another acceptable sale transaction for Mexico, orliquidate those assets and distribute any remaining proceeds to stockholders,assuming the plan of dissolution is approved by stockholders at thestockholders meeting. Alternatively, we could use the proceeds from the U.S.Sale to pay off existing debt and then begin to look to acquire additionalprofitable businesses. We cannot assure you that we would be able to consummatesuch acquisitions.

Management and our board of directors also believethat it may be necessary to immediately reduce corporate overhead and institutecost cutting measures throughout the remaining business. The board andmanagement believe that we may need to deregister our common stock under theSecurities Exchange Act of 1934, as amended (the “Exchange Act”), reduce corporate staff,and take additional cost cutting measures to “right size” the remainingoperations. We cannot assure you that these actions would be sufficient toallow us to continue to operate as a going concern without the U.S. and Miamioperations.

If our stockholders approve the Mexico Sale Agreementbut do not approve the U.S. Sale Agreement, we would continue to operate ourremaining businesses, but we would face many challenges such as the continuedweakness of our balance sheet and our inability to expend or attractsignificant amounts of capital in order to grow our business, our significantdependency on vendor credit lines and the ability to factor receivables forworking capital needs, increasing competitive pressures resulting from thecontinued consolidation of our customer base, and management’s belief thatthese pressures were likely to continue to increase due to the likelihood offurther consolidation in the wireless industry, and other challenges.  To close the Mexico Sale without the proceedsfrom the U.S. Sale, we would be required to obtain acceptable consents from ourlenders. We cannot assure you that such consents could be obtained. If consentson acceptable terms were obtained, management believes that it may have to usethe proceeds from the Mexico Sale to pay down some of its existing debt, whichwould reduce interest expense going forward;

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however,we would lose the on-going income stream from the Mexico operations. This wouldalso result in a greater concentration of our revenues from a smaller group ofcustomers in only two regions, thereby increasing the adverse impact of theloss of any of those customers.

We believe that it would require additional capital inorder to (i) acquire complementary businesses as necessary to obtain therequired scope and scale to maintain our position as a major distributor andlogistics provider and necessary for us to remain competitive in our industry,and (ii) make necessary investments in our business, particularly in ITsystems, to allow our distribution business to better compete. We believe thatobtaining additional capital could be highly dilutive to existing stockholders.There can be no assurance that the Company would be able to obtain suchadditional capital on satisfactory terms, if at all. There can also be noassurance that the Company would be able to consummate such complementaryacquisitions.

Management and the board of directors believe that itmay also be necessary to immediately reduce the costs associated with being apublic company by deregistering our common stock under the Exchange Act,thereby eliminating our obligations to file most of the reports we arecurrently required to file with the SEC and reducing corporate overhead.

In the event our stockholders do not approve eitherthe U. S. Sale Agreement or the Mexico Sale Agreement, we will be left with thechallenges to its business described above. We believe that it would require additional capital in order to(i) acquire complementary businesses as necessary to obtain the requiredscope and scale to maintain our position as a major distributor and logisticsprovider and necessary for us to remain competitive in our industry, and(ii) make necessary investments in its business, particularly in ITsystems, to allow our distribution business to better compete. We believe thatobtaining additional capital could be highly dilutive to existing stockholders.There can be no assurance that we would be able to obtain such additionalcapital on satisfactory terms, if at all. There can also be no assurance thatwe would be able to consummate such complementary acquisitions.  Management and the board of directors believethat it may also be necessary to immediately reduce the costs of being a publiccompany by deregistering our common stock under the Exchange Act.

*The loss of any of our key customers, or reduction in ordersfrom principal customers or a reduction in prices we are able to charge thesecustomers could have a material adverse effect on  our business.*

Many of our customers have experienced severe pricecompetition and for this and other reasons may seek to obtain products orservices from us at lower prices than we have been able to provide thesecustomers in the past. Our customer base is concentrated in a few keycustomers. In early 2006, lock/line LLC, the largest customer in the NorthAmerican Region, completed its merger with Asurion Corporation, and in April2006 Asurion took in-house the majority of the business previously performed bythe Company.  In 2005, lock/line accountedfor $115.0 million of revenues.  In 2006,revenues from lock/line decreased to $50.5 million, of which only $5.8 millionoccurred in the second half of 2006.  Forthe fiscal year ended November 30, 2006, Dobson accounted for approximately 20%of our total U.S. revenues,  Telefonicaaccounted for approximately 59% of our total Miami revenues, Telcel and Telcelrelated customers accounted for 76% of our total Mexico revenues, and onecustomer accounted for 95% of our total Chile revenues.  As a result, we remain vulnerable to asignificant and dramatic loss of revenues in the event we should lose anyadditional major customer.  The loss ofany of these key customers, a reduction in the amount of product or servicesour key customers order from us or the inability to maintain current terms,including price, with these or other customers could have an adverse effect onour financial condition, results of operations and liquidity. We do notmaintain agreements with the majority of our customers, which subjects us tofurther risk that such relationships could be terminated at any time. We cannotassure you that any of our customers will continue to purchase products orservices from us or that their purchases will be at the same or greater levelsthan in prior periods.

*The demand for our products depends in large part on thecontinued growth of the wireless industry. A marked decline in growth of thewireless industry and/or demand for wireless products in the areas in which weoperate could have an adverse effect on our business.*

Our success depends largely upon continued consumerdemand for wireless products. While the industry has been experiencing growth,we cannot assure you that such growth will continue, or that we will be able toadjust our business model to capitalize on that growth. The demand for ourproducts and services has fluctuated and may continue to vary substantiallywithin the North American and Latin American Regions.

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Economic slowdowns in these regions or changes inpromotional programs offered by carriers may lower consumer demand and createhigher levels of inventories in our distribution channels, resulting in lowerthan anticipated demand for the products and services that we offer. Aprolonged economic slow-down in the United States or the countries served byour Latin American Region could negatively impact our results of operations andfinancial position.

*A significant portion of our business is in the LatinAmerican Region, which bears additional risks that U.S- based businessesdo not have.*

During fiscal 2006, approximately 57% of our revenueswere generated in our Latin American Region. As with all companies that conducta significant portion of their operations outside the U.S., we are exposed tovarious economic and political risks that could negatively impact sales and/orprofitability, including but not limited to the following: potentially unstablechannels of distribution, increased credit risks, political instability,economic instability, currency controls, currency devaluations, exchange ratefluctuations, export control laws that might limit the markets we can enter,inflation, changes in laws and enforcement policies related to foreignownership of businesses abroad, foreign tax laws, trade disputes among nations,changes in cost of and access to capital, changes in import/export regulations,including enforcement policies, “gray market” resales and tariff and freightrates.

*Quality issues with our suppliers’ products could causedelays in receiving products, resulting in shipment delays to our customers**.***

Product manufacturers typically provide limitedwarranties directly to the end consumer or to us, which we generally passthrough to our customers. Occasionally, some of the products we sell havequality issues resulting from the design or manufacture of the product, or fromthe software used in the product. Often these issues are identified prior tothe shipment of the products and may cause delays in shipping products tocustomers, or even the cancellation of orders by customers. Sometimes, qualityissues in the products are discovered after they have been shipped to ourdistributors or end-user customers, requiring us to resolve such issues in atimely manner that is least disruptive to our customers. Such pre-shipment andpost-shipment quality issues can have legal and financial ramifications,including delays in the recognition of revenue, loss of revenue and/or futureorders, increased costs associated with repairing or replacing products, and anegative impact on our reputation.

*Shortages of certain high-demand products or componentscould result in a disruption of our ability to fulfill the orders of ourcustomers.*

From time to time our suppliers may experience ashortage in certain components needed to manufacture products, or shipments ofcertain high-demand products may be delayed due to a shortage in the number ofproducts available from the manufacturers. This could result in our not beingable to fulfill our customers’ orders in a timely manner, potentially resultingin a loss of revenue or damage to our customer relationships.

*The global wireless industry is intensely competitive and wemay not be able to continue to compete successfully in this industry.*

We operate in a highly competitive environment andbelieve that such competition will intensify in the future. We competeprimarily on the basis of inventory availability and selection, price, deliverytime and service. Many of our competitors are larger and have greater capitaland management resources than we do. Increasingly, we believe manufacturerswill move to a direct-to-retail model. We are constantly exposed to the riskthat our competitors may obtain access to new technologies before we do or mayoffer lower prices, additional products or services or other incentives that wecannot or will not offer. In addition, potential users of wireless systems mayfind their communications needs satisfied by other current and developingtechnologies. Our ability to remain competitive will therefore depend upon ourability to anticipate and adapt our business to such technological changes andour ability to achieve significant penetration in existing and new geographicmarkets. There can be no assurance that we will be successful in anticipatingand adapting to such technological changes.

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*We have taken cost-reduction actions in an attempt  to increase our profitability.  In addition, if either or both the U.S. Saleand Mexico Sale do not receive the approval of our stockholders, we will haveto take further cost reduction actions.*

We have taken cost-reduction actions during fiscal2006, including consolidating our Corporate and U.S. Region headquarters inJanuary and eliminating employee positions and/or leaving some positionsunfilled.  If either or both the U.S.Sale and Mexico Sale do not receive the approval of our stockholders, we mayhave to take further cost-reduction actions in order to continue to operate ourbusiness.  These cost-reduction actionsmay include deregistering under the Securities Act or reducing corporate staffand other employees.

The impact of these cost-reduction actions on oursales and profitability may be influenced by factors including but not limitedto: (1) our ability to successfully complete these cost-reduction actions;(2) our ability to generate the level of cost savings we expect and/orthat are necessary to enable us to maintain ongoing operations; (3) ourability to retain key employees; and (4) our ability to manage ourbusiness and perform essential functions with reduced staff.

*We may not be able to access capital under our existing debtfacilities.*

We have an $85.0 million revolving credit AmendedFacility. The Amended Facility is considered a current liability as the lenderhas dominion over cash receipts related to the Company’s domestic operationsand the Amended Facility contains an acceleration clause that the lenders couldchoose to invoke if the Company were to commit an event of default. The AmendedFacility is secured by a pledge of 100% of the outstanding stock of all U.S. subsidiariesand 65% of the outstanding stock of all first tier foreign subsidiaries asdefined by the Amended Facility. The Amended Facility is further secured by theCompany’s domestic accounts receivable, inventory, property, plant andequipment and all other domestic real property and intangible assets. TheAmended Facility contains, among other provisions, covenants relating to themaintenance of certain financial ratios, and restrictions on dividend payments,entering into additional debt, mergers and acquisitions and disposition ofassets. If we violate these covenants, our indebtedness would becomeimmediately due and payable, and the bank could foreclose on its security. Wehave similar restrictions and penalties with respect to the Term Loan with CapitalSource.  During fiscal 2006, we were able to obtainamendments, consents and waivers to the Amended Facility and the Term Loan inorder to remain compliant with the loan covenants. We cannot assure you thatsuch waivers and modifications will be obtained for any future non-compliancethat may occur. Non-compliance with certain covenants could hinder our abilityto access capital under the Amended Facility in the future and could cause usto default under either the Amended Facility or the Term Loan.  The approval of the U.S. and MexicoAgreements will result in the payoff of the Amended Facility and the Term Loan.

*We have deferred tax assets that we may not be able torealize.*

At November 30, 2006, the Company had netdeferred income tax assets, net of valuation allowances, of $7.6 million, asignificant portion of which relates to net operating loss carryforwards. Theultimate realization of deferred income tax assets is dependent on thegeneration of future taxable income during the periods in which those temporarydifferences are deductible. The most significant factor considered indetermining the realizability of the deferred tax asset was projectedprofitability, including taxable income generated from tax planning strategies,over the next three to five years. If the Company is unable to generatesufficient future taxable income, the Company would be unable to use theseassets. In addition, the amount of the deferred income tax asset consideredrealizable could change in the near term if estimates of future taxable incomeduring the relevant carry-forward period change or if the number of years isbeing considered for these projections change.

*Changes in government policies and laws or economicconditions may adversely affect our financial results.*

Our results may be affected by changes in trade,monetary and fiscal policies, laws and regulations, or other activities of U.S.and non-U.S. governments, agencies and similar organizations. Our resultsmay also be affected by social and economic conditions in emerging markets,such as those served by our Latin American Region.

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*We rely on complex information technology systems andnetworks to operate our business. Any significant system or network disruptioncould have a material adverse impact on our operations, sales and operatingresults.*

The Company has made significant investments intechnology to improve financial and information systems, however, futurecapital expenditures are needed in order to properly maintain and update thesesystems. Our ability to meet our customers’ technical and performancerequirements is highly dependent on the effective functioning of ourinformation technology systems. All information technology systems arepotentially vulnerable to damage or interruption from a variety of sources,including but not limited to computer viruses, security breach, energyblackouts, natural disasters, terrorism, war and telecommunication failures. Wehave implemented various measures to manage our risks related to system andnetwork disruptions, but a system failure or security breach could negativelyimpact our operations and financial results. In addition, further cost cutting measures could result in our systemsnot performing up to market standards or could severely reduce our ability toobtain new customers.

*Our share price has been and may continue to be volatile.*

                In the proxy statement filed withthe SEC on January 23, 2007, we provided an estimated distribution range to ourstockholders upon the closing of the U.S. and Mexico Sales. We believe it isunlikely that the stock price will exceed the high end of the distributionrange for the foreseeable future, and could decrease further once thetransactions close.  Our common stock iscurrently traded on the over-the-counter market, and is quoted in the PinkSheets®,which provides electronic quotation information. Our share price is subject togeneral volatility in the securities markets, and volatility in thetelecommunications and technology securities markets in particular.

*Compliance with changing regulation of corporate governanceand public disclosure may result in additional expenses.*

Compliance with changing laws, regulations andstandards relating to corporate governance and public disclosure, including theSarbanes-Oxley Act of 2002 and new SEC regulations, has required us to expendsignificant resources and incur additional expenses. As described above, if theU.S. and Mexico Sales are not approved, our board and management believe thatwe may need to deregister our common stock under the Exchange Act, therebyeliminating our obligations to file most of the reports we are currentlyrequired to file with the SEC.

*Our business may be adversely impacted by continuedconsolidation in the wireless market.*

##### In 2006, the U.S. wireless market sawcontinued consolidation, with larger carriers acquiring smaller carriers.As nationwide carriers get larger and gain market share, smaller wirelesscarriers are fighting to remain competitive. These trends may also lead to financial instability for some of ourregional carrier customers.  Thissmaller, regional carrier segment represented 67% of the Company’s revenues inthe North American Region in 2006. Further consolidation in the regionalcarrier segment could have a material adverse impact on the Company’s business.A change in the ownership or management of our customers could result in theloss or reduction of business with that customer, which could adversely affectour revenue stream and results of operations.

*We depend upon a limited number of suppliers to supply ourproducts who may not provide us with competitive products at reasonable priceswhen we need them in the future, or with adequate financing to secure suchproducts.*

Our business depends upon several factors, one ofwhich is our relationship with Motorola, the Company’s largest supplier andhistorically one of the largest manufacturers of wireless products in theworld. 65% of our product purchases in fiscal 2006 were from Motorola.  The loss of Motorola or any other significantvendor, a substantial price increase or decrease imposed by any vendor, ashortage or oversupply of product available from our vendors or tightening ofcredit terms by our vendors could have a material adverse impact on theCompany. We are dependent on maintaining open vendor trade credit lines onreasonable terms. Interruption of these lines could have a material adverseimpact, and could well determine whether or not the Company can continue as agoing concern. We cannot assure you that product shortages, product surplusesor renewed tightening of trade credit terms will not occur in the future.

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*Weaknesses in our internal control over financial reportingcould have an adverse effect on our financial statements and our operations.*

For the fiscal year ended November 30, 2005, ourmanagement identified certain control deficiencies, resulting in materialweaknesses in our internal control over financial reporting. Althoughmanagement determined that our internal control over financial reporting waseffective at November 30, 2006, projections of the effectiveness of internalcontrol over financial reporting in future periods are subject to the risk thatthe controls may become inadequate because of changes in conditions, or thatthe degree of compliance with the policies or procedures may deteriorate.Insufficient internal control over financial reporting could result inmisstatements in our financial statements that could be material and couldcause investors to lose confidence in our reported financial information, whichcould have a negative effect on the trading price of our stock.

*We may incur losses if we are unable to collect our accountsreceivable.*

    Accountsreceivable management is important to the Company’s liquidity. The Company usescredit management tools, which include credit scoring services in the Company’sNorth American and Miami operations, to manage its accounts receivableexposure. In Latin America, we sell primarily to large well-established carriercustomers and have significant receivables from these carriers. Several factorscan affect the collection of our accounts receivable, including, but notlimited to, the financial health of the customer, industry and economicconditions, our policies related to extending credit, contractual provisions,and the ability of the customer to provide security, collateral or guaranteesrelative to credit granted by us. Adverse changes in any of these factors, someof which may not be wholly within our control, could create delays incollecting or an inability to collect our accounts receivable which could havea material adverse effect on our financial position, cash flows and results ofoperations.

*Our future operating results will depend on our ability tomaintain or improve operating margins.*

The Company’s primary source of revenue is the sale ofwireless products. This area of our business generally has low margins. Ourability to be successful will depend upon our ability to maintain or improveour operating margins. Gross margins could be negatively affected by increasedcompetition or a growing industry emphasis on cost containment. We may not beable to improve our current operating margins for products or services offeredor increase our sales. Even if our sales volumes increase, the gross marginsthat we receive from our sales may not be sufficient to make our operationsprofitable.

*Rapid technological changes in the global wireless industrycould have a material adverse effect on our business.*

The market for wireless products is characterized byrapidly changing technology and frequent new product introductions, oftenresulting in product obsolescence or short product life cycles. Our successdepends in large part upon our ability to anticipate and adapt our business tosuch technological changes. We cannot assure you that we will be able toidentify, obtain and offer products necessary to remain competitive or thatcompetitors or manufacturers of wireless communications products will notmarket products that have perceived advantages over our inventories or thatrender the products we sell obsolete or less marketable. We maintain asignificant investment in our product inventory and, therefore, are subject tothe risks of inventory obsolescence and excessive inventory levels.

*Unforeseen events could disrupt our operations.*

Although we have implemented policies and proceduresdesigned to minimize the effect of an interruption in our business due to anunforeseen event such as a natural disaster, outbreak of hostilities orterrorist attack, we cannot assure you that our operations would not beadversely affected by such events if they occur.

18

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*Our operating results could vary significantly due tofluctuations in promotional and/or purchasing patterns.*

Our overall operating results may be influenced by anumber of factors in the different countries and markets in which we operate.These factors may cause our revenue and operating results to fluctuate on aquarterly basis. These fluctuations are a result of several factors, including,but not limited to:

·     promotions and subsidies by wirelesscarriers;

·     the timing of the introduction of newproducts by our suppliers and competitors;

·     purchasing patterns of customers indifferent markets; 

·     the timing of the receipt of vendorcredits; 

·     general economic, social and politicalconditions; and

·     product availability and pricing. 

The occurrence of an unanticipated event, such as adelay in securing adequate inventories of competitive products at times of peaksales or a significant decrease in sales during these periods, could have amaterial adverse effect on our operating results. Interim results may not beindicative of annual results.

*Our business depends on retaining our current key employeesand attracting additional qualified personnel.*

Our success depends in large part on the abilities andcontinued service of our executive officers and other key employees. Althoughwe have entered into employment agreements with certain of our executive officersand key employees, we may not be able to retain their services. We do notmaintain key man insurance on the life of any officer of the Company. The lossor interruption of the continued full-time service of the Company’s executiveofficers and key employees could have a material adverse impact on ourbusiness.

The success of our operations also depends on ourability to effectively recruit, develop and retain qualified individuals. Ifour stockholders do not approve the proposed U.S. Sale and Mexico Sale, webelieve that retaining our existing employees and attracting new employees willbe difficult, and could adversely affect our business.

**Item 1B. Unresolved StaffComments**

None.

19

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**Item 2. Properties**

In January 2006, we moved from our previous corporateheadquarters located in Carrollton, Texas to our North American Region facilityin Coppell, Texas. We lease the facility in Coppell, which expires in February2008. In February 2006, we sold our previous headquarters located inCarrollton.

Effective March 1, 2006, our Miami operations enteredinto a lease for approximately 19,830 square feet of office and warehouse spacein Miami, Florida.  As ofNovember 30, 2006, the Company had a total of 48 operating facilities inthe Latin American Region (including kiosks), of which all but one were leased.These facilities serve as offices, warehouses, distribution centers or retaillocations.

We believe that our existing facilities are suitableand adequate to allow us to conduct our current operations.

**Item 3. Legal Proceedings**

In February 2006, the Company received from theSEC a subpoena requiring production of certain documents relating to theCompany’s Asia-Pacific Region, which the Company exited in September 2005.The subpoena was issued in connection with a fact-finding inquiry under aformal order of investigation issued by the SEC. The Company is cooperatingfully with the SEC in this matter. The Company was advised in the Commission’sletter sent with the subpoena that the Commission’s investigation and subpoenado not mean that the Commission or its staff has concluded that CellStar oranyone else has broken the law, nor that the Commission or its staff has anegative opinion of any person, entity or security. The Company is unable topredict the outcome of the investigation, the scope of matters that the SEC maychoose to investigate in connection with the subpoena, the SEC’s views of theissues about which it is inquiring, or any action that the SEC might take.

The Company is a party to various claims, legalactions and complaints arising in the ordinary course of business. Managementbelieves that the disposition of these matters will not have a materiallyadverse effect on the consolidated financial condition or results of operationsof the Company.

**Item 4. Submission of Matters toa Vote of Security Holders**

We did not submit any matters for voting in the fourthquarter of 2006.

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**PART II.**

**Item 5. Market for Registrant’sCommon Equity, Related Stockholder Matters and Issuer Purchases of EquitySecurities**

Due to the Company’s inability to timely file its Form10-K for fiscal 2004 and Form 10-Q for the first quarter of 2005, the Company’scommon stock was delisted from the Nasdaq National Market effective with theopen of business on June 10, 2005. The Company’s common stock is currentlytraded on the over-the-counter (OTC) market and is quoted on the Pink Sheets® under the symbol “CLST.”

The following table sets forth, on a per share basis,high and low prices for our common stock for each quarter of fiscal years 2005and 2006. Prices through June 9, 2005, are the high and low closing saleprices as reported by Nasdaq. Prices beginning on June 10, 2005, are thehigh and low bid quotations per share for our common stock as reported on theOTC market, as compiled by Pink Sheets LLC. Such bid quotations reflectinter-dealer prices, without retail mark-up, mark-down or commission and maynot necessarily represent actual transactions.

|                                                       | ** ** | **High** | ** ** | **Low** | ** ** |
|-------------------------------------------------------|------------|----------|------------|---------|------------|
| Fiscal Year  ended November 30, 2006             |       |     |       |    |       |
| Quarter Ended:                                        |       |     |       |    |       |
| February 28,  2006                               |       | $        | 3.25       |    | 1.90       |   |
| May 31,  2006                                    |       | 5.05     |       | 2.35    |       |
| August 31,  2006                                 |       | 3.10     |       | 2.46    |       |
| November 30,  2006                               |       | 4.11     |       | 2.80    |       |
| Fiscal Year  ended November 30, 2005             |       |     |       |    |       |
| Quarter Ended:                                        |       |     |       |    |       |
| February 28,  2005                               |       | $        | 4.91       |    | 2.77       |   |
| May 31,  2005                                    |       | 3.05     |       | 1.29    |       |
| August 31,  2005 (June 1 – June 9)     |       | 1.30     |       | 0.96    |       |
| August 31,  2005 (June 10 – August 31) |       | 1.69     |       | 0.30    |       |
| November 30, 2005                                |       | 2.10     |       | 1.08    |       |

 

As of February 6, 2007, there were 223 stockholdersof record, although we believe that the number of beneficial owners issignificantly greater because a large number of shares are held of record byCEDE & Co.

Our policy has been to reinvest earnings to fundfuture growth. Accordingly, we have never paid cash dividends on our commonstock. Except in limited circumstances, under the terms of our AmendedFacility, we may not declare, pay or set aside cash dividends without theconsent of the various parties thereto.

As discussed in Item 1. Business — Proposed Sale ofU.S., Miami and Mexico Operations, we have filed a preliminary proxy statementwhich includes the proposed dissolution of the Company.  If the proposed plan of dissolution isapproved by our stockholders, we expect to pay a dividend of $1.00 per share ofcommon share approximately 60 days after closing the U. S. and MexicoSales.  Except as described above, we donot anticipate paying cash dividends on our common stock in the foreseeablefuture.

If the plan of dissolution is approved andconsummated, we intend to close our stock transfer books on the date ofdissolution and at such time cease recording stock transfers and issuing stockcertificates (other than replacement certificates). Accordingly, it is expectedthat trading in our common stock will cease after the date of dissolution.

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**IssuerPurchases of Equity Securities**

Wehave no programs to repurchase shares of our common stock. Pursuant to theterms of the CellStar Corporation 2003 Long-Term Incentive Plan (the “2003 Plan”),participants may in some cases elect to have shares of restricted stockwithheld by the Company in satisfaction of tax obligations due upon the vestingof restricted stock.   We classify thesewithheld shares as treasury stock and the shares are then available forre-issuance under the 2003 Plan.  During thefourth quarter of 2006, the Company withheld 14,910 shares of stock in satisfactionof tax obligations arising in connection with the vesting of 56,007 shares ofrestricted stock on November 15, 2006, including 5,113 shares withheld forexecutive officers. In the second quarter of 2006, the Company withheld 12,521shares of stock in satisfaction of tax obligations owed by Robert Kaiserarising in connection with the vesting of 47,342 shares of restrictedstock.  Other amounts withheld during thefiscal year were not material.  However,the Company does not believe such transactions are issuerrepurchasesfor the purposes of Item 5 of this Annual Report on Form 10-K.

##### **EquityCompensation Plan Information**

The following table sets forth information about theCompany’s equity compensation plans as of November 30, 2006:
| **Plan Category**                                      | ** ** | **Number of Securities  to be Issued  Upon Exercise  of Outstanding  Options (1)** | ** ** | **Weighted Average  Exercise Price of  Outstanding Options** | ** ** | **Number of Securities  Remaining Available  for Future Issuance Under  Equity Compensation  Plans (Excluding Securities  Reflected in First Column)** | ** ** |
|-------------------------------------------------------------|------------|-----------------------------------------------------------------------------------------------------------------------|------------|----------------------------------------------------------------------------------|------------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|
|                                                        |       |                                                                                                                  | ** ** | ** **                                                                       |       |                                                                                                                                                                                                               |       |
| Equity  compensation plans approved by security holders     |       | 467,098                                                                                                               | (2)        | $                                                                                | 10.72      |                                                                                                                                                                                                               | 163,069    | (3) |
| Equity  compensation plans not approved by security holders |       | —                                                                                                                |       | $                                                                                | —     |                                                                                                                                                                                                               | —     |   |
|                                                        |       |                                                                                                                  |       |                                                                             |       |                                                                                                                                                                                                               |       |
| Total                                                       |       | 467,098                                                                                                               |       |                                                                             |       | 163,069                                                                                                                                                                                                            |       |

----

(1)             TheCompany does not have outstanding any warrants or rights to purchase CommonStock, with the exception of rights outstanding pursuant to its amended andrestated stockholder rights plan, which rights are offered to all stockholderson a pro rata basis.  The stockholderrights plan expired on January 9, 2007. 

(2)             Consistsof options to purchase 51,500 shares of Common Stock issued pursuant to theCellStar Corporation 2003 Long-Term Incentive Plan (the “2003 Plan”), optionsto purchase 411,098 shares of Common Stock issued pursuant to the CellStarCorporation 1993 Amended and Restated Long-Term Incentive Plan, whichterminated on December 3, 2003, and options to purchase 4,500 shares ofCommon Stock issued pursuant to the 1994 Amended and Restated DirectorNonqualified Stock Option Plan, which terminated on March 3, 2004. 

(3)             Consistsof 163,069 shares of Common Stock which may be used for awards issued pursuantto the 2003 Plan. Pursuant to the 2003 Plan, the Company may issue restrictedstock, stock options or other equity-based awards. 

 

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**Item 6. Selected ConsolidatedFinancial Data**

The financial data presented below, as of and for eachof the years in the five-year period ended November 30, 2006, were derivedfrom the Company’s audited financial statements. The selected consolidatedfinancial data should be read in conjunction with “Management’s Discussion andAnalysis of Financial Condition and Results of Operations,” and the Company’sconsolidated financial statements and notes thereto, included in Part IV ofthis Form 10-K.  
| ** **                                                                  | ** ** | **(In thousands, except per share data and operating data)  Year Ended November 30,** | ** ** |
|-----------------------------------------------------------------------------|------------|----------------------------------------------------------------------------------------------------------------------------------------------|------------|
| ** **                                                                  | ** ** | **2006**                                                                                                                                     | ** ** | **2005** | ** ** | **2004** | ** ** | **2003** | ** ** | **2002 (4)** | ** ** |
|                                                                        |       |                                                                                                                                         |       |   |   |   |   |   |   |   |   |
| Statements of Operations Data:                                              |       |                                                                                                                                         |       |   |   |   |   |   |   |   |   |
| Revenues                                                                    |       | $                                                                                                                                            | 943,140    |   | 987,673 |   | 821,481 |   | 895,882 |   | 947,272 |   |
| Cost of sales                                                               |       | 877,754                                                                                                                                      |       | 937,331 |   | 772,884 |   | 839,837 |   | 881,194 |   |
|                                                                        |       |                                                                                                                                         |       |   |   |   |   |   |   |   |   |
| Gross profit                                                                |       | 65,386                                                                                                                                       |       | 50,342 |   | 48,597 |   | 56,045 |   | 66,078 |   |
| Operating expenses:                                                         |       |                                                                                                                                         |       |   |   |   |   |   |   |   |   |
| Selling, general and administrative expenses                                |       | 50,485                                                                                                                                       |       | 51,246 |   | 58,595 |   | 62,130 |   | 85,065 |   |
| Impairment of assets (3) (4)                                                |       | —                                                                                                                                       |       | — |   | — |   | 3,966 |   | 3,655 |   |
| Severance and exit charges (4)                                              |       | —                                                                                                                                       |       | — |   | — |   | (710 | ) | 2,566 |   |
|                                                                        |       |                                                                                                                                         |       |   |   |   |   |   |   |   |   |
| Operating income (loss)                                                     |       | 14,901                                                                                                                                       |       | (904 | ) | (9,998 | ) | (9,341 | ) | (25,208 | ) |
| Other income (expense):                                                     |       |                                                                                                                                         |       |   |   |   |   |   |   |   |   |
| Interest expense                                                            |       | (3,916                                                                                                                                       | )          | (3,794 | ) | (3,441 | ) | (2,615 | ) | (5,064 | ) |
| Loss on sale of accounts receivable                                         |       | (2,578                                                                                                                                       | )          | (2,413 | ) | (376 | ) | (330 | ) | (156 | ) |
| Gain on early extinguishment of debt (5)                                    |       | 566                                                                                                                                          |       | — |   | — |   | — |   | 17,208 |   |
| Gain on sale of building                                                    |       | 240                                                                                                                                          |       | — |   | — |   | — |   | — |   |
| Minority interest                                                           |       | (2,390                                                                                                                                       | )          | — |   | — |   | — |   | — |   |
| Other, net                                                                  |       | 214                                                                                                                                          |       | 684 |   | 17 |   | 750 |   | (73 | ) |
|                                                                        |       |                                                                                                                                         |       |   |   |   |   |   |   |   |   |
| Total other income (expense)                                                |       | (7,864                                                                                                                                       | )          | (5,523 | ) | (3,800 | ) | (2,195 | ) | 11,915 |   |
|                                                                        |       |                                                                                                                                         |       |   |   |   |   |   |   |   |   |
| Income (loss) from continuing operations before  income taxes               |       | 7,037                                                                                                                                        |       | (6,427 | ) | (13,798 | ) | (11,536 | ) | (13,293 | ) |
| Provision (benefit) for income taxes (6)                                    |       | 2,786                                                                                                                                        |       | 845 |   | 23,181 |   | (5,237 | ) | (4,127 | ) |
|                                                                        |       |                                                                                                                                         |       |   |   |   |   |   |   |   |   |
| Income (loss) from continuing operations                                    |       | 4,251                                                                                                                                        |       | (7,272 | ) | (36,979 | ) | (6,299 | ) | (9,166 | ) |
| Discontinued operations (7)                                                 |       | 585                                                                                                                                          |       | (17,311 | ) | (81,138 | ) | (15,442 | ) | (18,799 | ) |
| Cumulative effect of a change in accounting  principle, net of tax (8)      |       | —                                                                                                                                       |       | — |   | — |   | (17,153 | ) | — |   |
|                                                                        |       |                                                                                                                                         |       |   |   |   |   |   |   |   |   |
| Net income (loss)                                                           |       | $                                                                                                                                            | 4,836      |   | (24,583 | ) | (118,117 | ) | (38,894 | ) | (27,965 | ) |
|                                                                        |       |                                                                                                                                         |       |   |   |   |   |   |   |   |   |
| Net income (loss) per share:                                                |       |                                                                                                                                         |       |   |   |   |   |   |   |   |   |
| Basic:                                                                      |       |                                                                                                                                         |       |   |   |   |   |   |   |   |   |
| Income (loss) from continuing operations                                    |       | $                                                                                                                                            | 0.21       |   | (0.35 | ) | (1.82 | ) | (0.31 | ) | (0.75 | ) |
| Discontinued operations                                                     |       | 0.03                                                                                                                                         |       | (0.85 | ) | (3.98 | ) | (0.76 | ) | (1.53 | ) |
| Cumulative effect of a change in accounting  principle, net of tax          |       | —                                                                                                                                       |       | — |   | — |   | (0.84 | ) | — |   |
|                                                                        |       |                                                                                                                                         |       |   |   |   |   |   |   |   |   |
| Net income (loss) per share                                                 |       | $                                                                                                                                            | 0.24       |   | (1.20 | ) | (5.80 | ) | (1.91 | ) | (2.28 | ) |
|                                                                        |       |                                                                                                                                         |       |   |   |   |   |   |   |   |   |
| Diluted :                                                                   |       |                                                                                                                                         |       |   |   |   |   |   |   |   |   |
| Income (loss) from continuing operations                                    |       | $                                                                                                                                            | 0.20       |   | (0.35 | ) | (1.82 | ) | (0.31 | ) | (0.75 | ) |
| Discontinued operations                                                     |       | 0.03                                                                                                                                         |       | (0.85 | ) | (3.98 | ) | (0.76 | ) | (1.53 | ) |
| Cumulative effect of a change in accounting  principle, net of tax          |       | —                                                                                                                                       |       | — |   | — |   | (0.84 | ) | — |   |
|                                                                        |       |                                                                                                                                         |       |   |   |   |   |   |   |   |   |
| Net income (loss) per share                                                 |       | $                                                                                                                                            | 0.23       |   | (1.20 | ) | (5.80 | ) | (1.91 | ) | (2.28 | ) |
|                                                                        |       |                                                                                                                                         |       |   |   |   |   |   |   |   |   |
| Weighted average number of shares: (1)(2)                                   |       |                                                                                                                                         |       |   |   |   |   |   |   |   |   |
| Basic                                                                       |       | 20,415                                                                                                                                       |       | 20,463 |   | 20,363 |   | 20,354 |   | 12,268 |   |
| Diluted                                                                     |       | 21,110                                                                                                                                       |       | 20,463 |   | 20,363 |   | 20,354 |   | 12,268 |   |
|                                                                        |       |                                                                                                                                         |       |   |   |   |   |   |   |   |   |
| Operating Data:                                                             |       |                                                                                                                                         |       |   |   |   |   |   |   |   |   |
| International  revenues, including export sales, as a percentage of revenue |       | 56.7                                                                                                                                         | %          | 53.2 | % | 46.5 | % | 40.9 | % | 41.1 | % |

 

|                                                     | ** ** | **(In thousands)  November 30,** | ** ** |
|-----------------------------------------------------|------------|--------------------------------------------|------------|
| ** **                                          | ** ** | **2006**                                   | ** ** | **2005** | ** ** | **2004** | ** ** | **2003** | ** ** | **2002** | ** ** |
|                                                |       |                                       |       |   |   |   |   |   |   |   |   |
| Balance Sheet  Data:                                |       |                                       |       |   |   |   |   |   |   |   |   |
| Working capital                                     |       | $                                          | 10,426     |   | 4,010 |   | 16,812 |   | 122,294 |   | 132,280 |   |
| Total assets                                        |       | 235,980                                    |       | 213,859 |   | 353,236 |   | 510,726 |   | 503,071 |   |
| Notes payable and current portion of long-term debt |       | 34,469                                     |       | 30,462 |   | 35,777 |   | 19,305 |   | 23,089 |   |
| Long-term debt                                      |       | 11,075                                     |       | 12,374 |   | 12,374 |   | 12,374 |   | 12,374 |   |
| Stockholders’  equity                          |       | 16,770                                     |       | 10,091 |   | 33,873 |   | 147,773 |   | 184,757 |   |
|                                                     |            |                                            |            |  |  |  |  |  |  |  |  |  |

 

23

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(1)             Commonstock amounts have been retroactively adjusted to give effect to theone-for-five reverse stock split effective February 22, 2002. 

(2)             OnFebruary 20, 2002, the Company issued, in an exchange offer, $39.1 millionin 5% senior subordinated convertible notes which were converted into7.8 million shares of common stock in November 2002. 

(3)             OnMay 26, 2004, the Company completed the divestiture of its Colombiaoperations. In conjunction with the anticipated transaction, the Companyrecorded an asset impairment charge of $4.0 million in 2003. 

(4)             In2002, the Company recorded a net charge of $6.7 million related to the exit ofthe operations in the U.K., Peru and Argentina, including $0.5 million in costof sales. 

(5)             In2002, the Company had a $17.2 million gain resulting from the Company’sexchange offer. 

(6)             In2004, the Company had a pre-tax loss. However, increases in the valuationallowances attributable to the Company’s U.S. operations resulted in income taxexpense.  

(7)             In2005, the Company sold its operations in the PRC, Hong Kong and Taiwan,completing its exit of the Asia-Pacific Region. In 2004, the Company sold itsoperations in Singapore. In 2003, the Company sold its Netherlands operationsand its Sweden operations. The Company has reclassified the results of theseoperations to discontinued operations for all periods presented. 

(8)             EffectiveDecember 1, 2002, the Company adopted Statement of Financial AccountingStandards No. 142, “Goodwill and Other Intangible Assets.” Pursuant to theprovisions of SFAS No. 142, the Company stopped amortizing goodwill as ofDecember 1, 2002, and recorded an impairment charge of $17.2 millionrelated to the adoption of this statement. 

 

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**Item 7. Management’s Discussionand Analysis of Financial Condition and Results of Operations**

**Overview**

CellStar is a leading distributor of wireless productsand value-added logistics services to the wireless communications industry,serving network operators, agents, resellers, dealers, and retailers withoperations in the North American and Latin American Regions.  We provide comprehensive logistics solutionsand facilitate the effective and efficient distribution of handsets, relatedaccessories and other wireless products from leading manufacturers to networkoperators, agents, resellers, dealers and retailers. We also provide activationservices in some of our markets that generate new subscribers for wirelesscarriers. We derive substantially all of our revenues from net product sales,which include sales of handsets and other wireless communications products. Wealso derive revenues from value-added services, including activations, residualcommissions, and prepaid wireless services, none of which accounted for 10% ofconsolidated revenues. Value-added service revenues include fulfillment servicefees, handling fees and assembly revenues. Activation income includescommissions paid to us by a wireless carrier when a customer initiallysubscribes for the carrier’s wireless service through us. Residual commissionsinclude payments received from carriers based on the wireless handset usage bya customer that we activate.

The Company reported net income of $4.8 million, or$0.23 per diluted share, for the year ended November 30, 2006, includingincome of $0.6 million, or $0.03 per diluted share, from discontinuedoperations, compared with a net loss of $24.6 million, or $1.20 per share, forthe same period last year, including a loss of $17.3 million, or $0.85 pershare, from discontinued operations. Revenues for the year endedNovember 30, 2006, were $943.1 million, a decrease of $44.6 million,compared to $987.7 million in 2005. Revenues increased in the Latin AmericanRegion ($9.5 million) primarily due to increases of $56.0 million and $34.8million in Mexico and Chile, respectively, offset by a decline of $81.3 millionin the Company’s operations in Miami. Revenues decreased in the North AmericanRegion ($54.1 million) due to a decrease in the Company’s insurance replacementbusiness of $73.3 million as a result of the loss of the majority of thelock/line LLC business in April 2006. Gross profit increased from $50.3 million(5.1% of revenues) for the year ended November 30, 2005 to $65.4 million(6.9% of revenues) for the year ended November 30, 2006. Gross profitincreased as a percentage of revenues in North America primarily due to bettermargins in the regional carrier group and indirect channel business and inLatin America primarily due to the Company’s joint venture in Mexico. Selling,general and administrative expenses decreased $0.6 million from $51.2 million(5.2% of revenues) for the year ended November 30, 2005 to $50.5 million(5.3% of revenues) for the year ended November 30, 2006, primarily due todecreases in the North American and Corporate segments, partially offset by anincrease in the Company’s Mexico operations.

Lock/line LLC, previously the Company’s largestcustomer, accounted for $50.5 million or approximately 12% of the NorthAmerican Region revenues and 5% of the consolidated revenues for the year endedNovember 30, 2006.  In 2005, lock/lineLLC accounted for $115.0 million or approximately 25% of North American Regionrevenues and 12% of consolidated revenues. Lock/line LLC completed its merger with AsurionCorporation effective January 1, 2006. In March 2006, the Company announced it had been notified by AsurionCorporation of its intent to take in-house some of the business previouslyperformed by the Company.  In April 2006,the transition was completed.  Revenuesfrom lock/line the last six months of 2006 were $5.8 million.  Primarily as a result of the lock/linetransition, revenues from the North American region declined from $224.3million for the first six months of 2006 to $184.2 million in the last sixmonths.  Operating income, in the NorthAmerican Region, decreased from $10.3 million for the first six months of 2006to $5.1 million the last six months.

In February 2006, the Company received from theSEC a subpoena requiring production of certain documents relating to theCompany’s Asia-Pacific Region, which the Company exited in September 2005.The subpoena was issued in connection with a fact-finding inquiry under aformal order of investigation issued by the SEC. The Company is cooperatingfully with the SEC in this matter. The Company was advised in the Commission’sletter sent with the subpoena that the Commission’s investigation and subpoenado not mean that the Commission or its staff has concluded that CellStar oranyone else has broken the law, nor that the Commission or its staff has anegative opinion of any person, entity or security. The Company is unable topredict the outcome of the investigation, the scope of matters that the SEC maychoose to investigate in connection with the subpoena, the SEC’s views of theissues about which it is inquiring, or any action that the SEC might take.

25

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On August 31, 2006, the Companyentered into a Term Loan to provide financing to purchase or redeem the Company’s$12.4 million of Senior Notes due January 2007. In September 2006, the Company purchased $10.5 million of its $12.4million outstanding Senior Notes at a 1% discount.  In December 2006, the remaining Senior Noteswere redeemed at par.

*Subsequent Events*

As discussed inPart I, Item 1. Business — Proposed Sale of U.S., Miami and Mexico Operations -on December 18, 2006 the Company announced that it had entered into agreementsto sell substantially all of the assets and for the buyer to assume certainliabilities of its U.S. and Miami-based Latin American operations toBrightpoint and to sell all of its Mexico operations to Wireless Solutions andPrestadora.  The two transactions are notdependent on each other and do not include the Company’s operations inChile.  In addition, the transactions aresubject to approval by the Company’s stockholders.  In conjunction with these agreements, theCompany expects to divest its operations in Chile, and ultimately liquidate anddissolve the Company.  On January 23,2007, the Company filed a preliminary proxy statement with the SEC which morefully describes the proposed transaction and dissolution of the Company.

**Special Cautionary Notice Regarding Forward-LookingStatements**

Certain of the matters discussed under the captions “Business,”“Properties,” “Legal Proceedings,” “Management’s Discussion and Analysis ofFinancial Condition and Results of Operations,” and elsewhere in this reportmay constitute “forward-looking” statements for purposes of the Securities Actof 1933, as amended, and the Securities Exchange Act of 1934, as amended (the “ExchangeAct”), and, as such, may involve known and unknown risks, uncertainties andother factors that may cause the actual results, performance or achievements ofthe Company to be materially different from future results, performance orachievements expressed or implied by such forward-looking statements. When usedin this report, the words “anticipates,” “estimates,” “believes,” “continues,” “expects,”“intends,” “may,” “might,” “could,” “should,” and similar expressions areintended to be among the statements that identify forward-looking statements.Statements of various factors that could cause the actual results, performanceor achievements of the Company to differ materially from the Company’sexpectations, are disclosed in this report under the caption “Risk Factors,”including, without limitation, those statements made in conjunction with theforward-looking statements included under the captions identified above andotherwise herein. All forward-looking statements attributable to the Companyare expressly qualified in their entirety by the Risk Factors.

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**Results of Operations**

The following table sets forth certain consolidatedstatements of operations data for the Company expressed as a percentage ofrevenues for the past three fiscal years:
| ** **                                                    | ** ** | **2006** | ** ** | **2005** | ** ** | **2004** | ** ** |
|---------------------------------------------------------------|------------|----------|------------|----------|------------|----------|------------|
|                                                          |       |     |       |     |       |     |       |
| Revenues                                                      |       | 100.0    | %          | 100.0    |       | 100.0    |       |
| Cost of sales                                                 |       | 93.1     |       | 94.9     |       | 94.1     |       |
| Gross profit                                                  |       | 6.9      |       | 5.1      |       | 5.9      |       |
|                                                          |       |     |       |     |       |     |       |
| Selling, general  and administrative expenses                 |       | 5.3      |       | 5.2      |       | 7.1      |       |
| Operating income  (loss)                                      |       | 1.6      |       | (0.1     | )          | (1.2     | )          |
|                                                          |       |     |       |     |       |     |       |
| Other income  (expense):                                      |       |     |       |     |       |     |       |
| Interest expense                                              |       | (0.4     | )          | (0.4     | )          | (0.4     | )          |
| Loss on sale of  accounts receivable                          |       | (0.3     | )          | (0.2     | )          | (0.1     | )          |
| Gain on  retirement of 12% Senior subordinated notes          |       | 0.1      |       | 0.0      |       | 0.0      |       |
| Gain on sale of  building                                     |       | 0.0      |       | 0.0      |       | 0.0      |       |
| Minority  interest                                            |       | (0.3     | )          | 0.0      |       | 0.0      |       |
| Other, net                                                    |       | 0.0      |       | 0.0      |       | 0.0      |       |
| Total other  income (expense)                                 |       | (0.9     | )          | (0.6     | )          | (0.5     | )          |
|                                                          |       |     |       |     |       |     |       |
| Income (loss)  from continuing operations before income taxes |       | 0.7      |       | (0.7     | )          | (1.7     | )          |
|                                                          |       |     |       |     |       |     |       |
| Provision for  income taxes                                   |       | 0.3      |       | 0.1      |       | 2.8      |       |
|                                                          |       |     |       |     |       |     |       |
| Income (loss)  from continuing operations                     |       | 0.4      |       | (0.8     | )          | (4.5     | )          |
|                                                          |       |     |       |     |       |     |       |
| Discontinued  operations                                      |       | 0.1      |       | (1.7     | )          | (9.9     | )          |
|                                                          |       |     |       |     |       |     |       |
| Net income (loss)                                             |       | 0.5      | %          | (2.5     | )          | (14.4    | )          |

 

Revenues from the Company’s Miami operations areclassified as Latin American Region revenues as these revenues are primarilyexports to Latin American countries, either by the Company or by exportercustomers. Revenues by region for the years ended November 30, 2006, 2005 and2004 are as follows (in thousands);

|               | ** ** | **2006** | ** ** | **2005** | ** ** | **2004** | ** ** |
|---------------|------------|----------|------------|----------|------------|----------|------------|
|          |       |     |       |     |       |     |       |   |   |   |   |   |   |
| North America |       | $        | 408,548    |     | 43         | %        | 462,581    |   | 47 | % | 439,407 |   | 53 | % |
|          |       |     |       |     |       |     |       |   |   |   |   |   |   |
| Latin America |       | 534,592  |       | 57       | %          | 525,092  |       | 53 | % | 382,074 |   | 47 | % |
|          |       |     |       |     |       |     |       |   |   |   |   |   |   |
| Total         |       | $        | 943,140    |     | 100        | %        | 987,673    |   | 100 | % | 821,481 |   | 100 | % |

 

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**Fiscal2006 Compared to Fiscal 2005**

 *Revenues.*The Company’s revenues decreased$44.6 million, or 4.5%, from $987.7 million in 2005 to $943.1 million in 2006.The Company handled 12.7 million handsets (5.7 million consigned) in 2006compared to 12.4 million handsets (4.1 million consigned) in 2005. Theaverage selling price of handsets for 2006 was $120 compared to $109 in 2005,primarily due to changes in the revenue mix. In 2005, the Miami operations were 28% of consolidated revenues comparedto 20% in 2006.  Revenues from the Miamioperations primarily are derived from the sale of low-end handsets.

NorthAmerican Region revenues were $408.5 million, a decrease of $54.1 million,compared to $462.6 million in 2005. This decrease in revenues is predominantlydue to a decrease in the Company’s insurance replacement business of $73.3million as a result of the loss of the majority of the lock/line LLC businessin April 2006, as well as a decrease of $10.8 million in the indirect channelbusiness.  The decline in the indirectchannel was due to consolidation of some of its customers as well as a shift ofthe business model from high volume low margin products to a higher marginmodel.  These decreases were partially offset by an increase of $21.8million in the region’s regional carrier group business from $250.5 million in2005 to $272.3 million in 2006.  In 2006the Company’s regional carrier customers conducted new model, as well asseasonal promotions. One of the primary models that was successful over thefirst half of the year was the Motorola RAZR, which carried a higher averageselling price.  Although there was anincrease in revenues in the regional carrier group, there continues to be arisk of consolidation among the rural carriers. Two of the largest rural carriers, which were customers of the Company,Western Wireless and Midwest Wireless, were acquired in 2005 and 2006,respectively.  Combined revenues forWestern Wireless and Midwest Wireless were $7.3 million and $16.5 million forthe years ended November 30, 2006 and 2005, respectively.  In addition, we also lost several independentrural carrier customers when the Associated Carrier Group LLC, a consortium ofindependent rural carriers, announced in April 2006 that it signed a preferredsupplier agreement with Brightpoint. Revenues for this consortium were $39.4 million and $30.2 million forthe years ended November 30, 2006 and 2005, respectively.  However, for the fourth quarter, revenueswere $1.1 million and $12.8 million for 2006 and 2005, respectively.

 Lock/line LLC, previously our largest customerin the North American Region, accounted for $115.0 million or 25% of our fiscal2005 revenue in the North American Region and contributed 12% of our revenueson a consolidated basis.  Lock/line LLCcompleted its merger with Asurion Corporation effective January 1, 2006.  In March 2006, the Company announced it had beennotified by Asurion Corporation of its intent to take in-house some of thebusiness previously performed by the Company. In April 2006, the transition was completed.  Lock/line accounted for $50.5 million orapproximately 12% of the North American Region revenues and 5% of consolidatedrevenues in 2006. Revenues from lock/line for the last six months of 2006 were$5.8 million.  The operating margin forlock/line is comparable to other customers in the North American Region.

TheCompany’s operations in the Latin American Region provided $534.6 million ofrevenues in 2006, compared to $525.1 million in 2005, a $9.5 million increase,due to increases in Mexico ($56.0 million) and Chile ($34.8 million) offset bya decline of $81.3 million in the Company’s operations in Miami. Miami revenuesdecreased from $272.4 million in 2005 to $191.0 million in 2006, primarily dueto a reduction in revenue from the major carrier customer in Colombia. In 2005,the Company expanded its relationship with the carrier in support of thecarrier’s technology transition from CDMA to GSM. The major carrier customer inColombia was acquired by Telefonica in January 2005. Telefonica immediatelyinitiated aggressive promotions in the country consisting primarily of low endhandsets supplied by the Company’s Miami operations. The transition to GSM wassubstantially completed in 2005. Revenues from this customer were $186.2million in 2005 compared to $112.5 million in 2006. The Company anticipatesthat revenues from this customer in future periods will be comparable to the2006 levels. Revenues in Mexico were $290.7 million in 2006 compared to $234.7million in 2005. The Company continues to focus its efforts on the largestcarrier in the country, Telcel. In April 2005, in order to increase itsactivation business and further strengthen its relationship with Telcel, CELEXinvested in CII.  The joint venture provides handset distribution andactivation services for Telcel through a national retailer.  Revenuesassociated with Telcel, including the joint venture, were $221.5 million in2006 compared to $174.4 million in 2005.  The Mexico operations have seena shift in the revenue mix from CELEX to the joint venture, which generallyoperates with higher margins. Revenues from the Company’s operations in Chilewere $52.8 million in 2006 compared to $18.0 million in 2005.

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During2006, the Company’s operations in Chile had increased sales to a major carriercustomer.  The major carrier customer was recently purchased and hasinitiated aggressive promotions in the country.  The Company expectsrevenues in Chile to increase relative to 2005 levels in future periods.

*Gross Profit*. Gross profit increased $15.1million from $50.3 million in 2005 to $65.4 million in 2006. Gross profit as apercentage of revenues was 6.9% in 2006, compared to 5.1% in 2005.

Gross profit, as well as gross profit percentage, inthe North American Region increased from 2005. These increases were primarilydue to increased revenues in the Company’s regional carrier group and bettermargins in the indirect channel group. In the regional carrier business,carrier customers conducted new model promotions and the Company purchasedcertain products at the end of November and early December 2005 in anticipationof sales in January and February 2006 in order to take advantage ofmanufacturer pricing and volume incentives. In the indirect channel, theCompany was able to replace a portion of the traditionally low margin businesswith a major carrier customer’s agents with new customers who purchased highermargin handsets.

Grossprofit, as well as gross profit percentage, increased in the Company’s LatinAmerican Region compared to 2005. These increases were primarily due to theCompany’s joint venture in Mexico and the receipt of vendor credits. TheCompany’s joint venture in Mexico has higher margins than our traditionalbusiness. The margins in the operations in Mexico also increased due to thereceipt of vendor credits. The Company’s operations in Miami recognized aslight increase in gross profit despite the decline in revenues, primarily dueto the receipt of vendor credits in 2006. Gross profit percentage also increased in Miami as the business with themajor carrier customer has a lower gross profit percentage.  Gross profit in Chile increased due to theincreased revenues.  The gross profitpercentage decreased in Chile as the revenue mix shifted from value addedservices to product sales which have lower margin percentages.

TheCompany continually negotiates with its vendors to receive price protection andother incentives. The Company recognizes these credits and incentives in theperiod the agreement is made so long as the terms are supported by a writtenagreement. If not supported by a written agreement, the Company recognizesthese credits when received. These credits and incentives are applied againstinventory or cost of goods sold, depending on whether the related inventory ison-hand or has been previously sold. The timing of receiving these writtenagreements can cause significant variations in our gross margins and operatingresults.

*Selling, General and Administrative Expenses*.Selling, general and administrative expenses decreased from $51.2 million in2005 to $50.5 million in 2006. In 2006, there was a reduction in payroll andbenefits of $1.1 million in the North American and Corporate segments combinedas the Company continues to align overhead expenses with the remainingoperations. There were also decreases in North America and Corporate inmarketing ($0.6 million), due to reductions in trade show expenses; travelexpenses ($0.6 million); professional fees ($0.8 million); property andfacility expenses ($1.2 million), due to assets being fully depreciated as wellas the move of the Company’s corporate headquarters; and decreases in variousother administrative expenses totaling $1.6 million.  During the secondquarter of 2006, the Company favorably settled a liability relating to a theftof consigned inventory in 2001 resulting in a recovery of $1.4 million. TheCompany had recognized expenses of $1.8 million in prior years related to thistheft.  These decreases were partiallyoffset by increases in Latin America due to the amortization of the intangibleasset acquired in the CII purchase ($1.2 million), as well as an increase inpayroll and benefits of $2.4 million primarily due to the joint venture inMexico and an increase of $1.4 million in professional fees.

Baddebt expense for 2006 was $0.6 million compared to a recovery of $0.5 millionin 2005. The increase in bad debt expense of $1.1 million was primarily due toa recovery of $0.5 million in 2005 in the North American Region due to apayment received on an account previously reserved.

*Interest Expense*. Interest expense in 2006was $3.9 million compared to $3.8 million in the prior year.

29

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*Loss on sale of accounts receivable*. TheCompany recognized $2.6 million and $2.4 million in losses on sales of accountsreceivable in 2006 and 2005, respectively. The Company has agreements withfinancing companies whereby it may sell, without recourse, trade receivablesfrom certain of its major customers in Latin America.  Beginning in the fourth quarter of 2006, theCompany no longer sells without recourse its trade receivables fromTelcel.  Instead, the Company presentsinvoices for early payment to Telcel at rates comparable to the prior factoringarrangement with a financial institution. This early payment discount is included as a reduction of revenues andtotaled $0.6 million in 2006.

*Gain on retirement of 12% Senior Notes. *On September 7, 2006, theCompany redeemed $10.5 million of Senior Notes at a one percent discount. The Company recognized a gain on the transaction for the quarter ended November30, 2006 of $0.6 million, which also includes the reversal of interestpreviously accrued. The Company did not recognize as interest expense theinterest payments on the Senior Notes as these were accrued as part of atroubled debt restructuring in 2002.  Beginning in the fourth quarter of2006, the Company recognized as expense the interest payments on the Term Loan.

*Minority Interest.* The Company recognized$2.4 million of expense for the year ended November 30, 2006, associatedwith the CII joint venture in the Company’s Mexico operations which beganoperating in the third quarter of 2005.

*Income Taxes*. The Company had an incometax expense of $2.8 million in 2006 compared to $0.8 million of expense in2005. Although the Company had a loss before income taxes in 2005, the Companydid not recognize a benefit for the operating losses as the Company did notconsider it more likely than not that the benefit of the operating losses wouldbe realized.  For 2006, the Companyutilized net operating loss tax carryforwards to offset its tax liabilityexcept for certain minimum taxes, withholding taxes and taxes relating to theCompany’s joint venture CII. Taxes are provided on CII at the statutory rate asthe Company does not have net operating loss carryforwards related to CII.

In assessing the realizability of deferred income taxassets, management considers whether it is more likely than not that thedeferred income tax assets will be realized. At November 30, 2006, theCompany had net deferred income tax assets, net of valuation allowances, of$7.6 million, a significant portion of which relates to net operating losscarryforwards. The ultimate realization of deferred income tax assets isdependent on the generation of future taxable income during the periods inwhich those temporary differences are deductible. Management considers thescheduled reversal of deferred income tax liabilities, projected future taxableincome, and tax planning strategies in making this assessment. Based on thelevel of historical taxable income and projections for future taxable incomeover the periods in which the deferred income tax assets are deductible,including taxable income generated by tax planning strategies, managementdetermines if it is more likely than not that the Company will realize thebenefits of these deductible differences. The most significant factorconsidered in determining the realizability of the deferred tax asset wasprojected profitability, including taxable income generated from tax planningstrategies over the next three to five years. The Company needs to generate $21.1million in pre-tax income over this period to fully utilize the net deferredtax asset.

The amount of the deferred income tax asset consideredrealizable, however, could change in the near term if estimates of futuretaxable income during the relevant carry-forward period change or if the numberof years being considered for these projections change.

At November 30,2006 and 2005, the Company has provided a valuation allowance against themajority of its net operating losses as realization of the tax benefits is notexpected based on current operations. However, the approval of the U.S. Sale Agreement by stockholders wouldhave a significant impact on the deferred income tax asset valuation allowance.  The sale of the U.S. and Miami operationswould result in an expected gain in excess of $50 million. The Company believesthe tax liability for a significant portion of this gain would be offset by theutilization of net operating losses which have been previously reserved.

The approval ofthe Mexico Sale Agreement would negatively impact the deferred income taxvaluation allowance by approximately $2.7 million as no future taxable incomewould be generated from the Mexico operations.  In assessing the realizability of the deferred tax assets at November30, 2006 the Company has included the expected income from the Mexicooperations.

30

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As of November 30,2006 the completion of the U.S. and Mexico Sale Agreements was uncertain due tothe requirement for stockholder approval. Accordingly the amount of the deferred tax assets at November 30, 2006expected to be realized is based on the current operations of the Companywithout considering the effects of the proposed transactions.

*Discontinued Operations*. As discussed inNote 11 to the Consolidated Financial Statements, the Company exited theAsia-Pacific Region in 2005. In conjunction with the sale of the Company’soperations in the PRC in 2005, the Company maintained the right to pursuecertain claims against certain manufacturers. In the second quarter of 2006,the Company recovered $0.7 million related to one of these claims.

 

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**Fiscal 2005 Compared to Fiscal 2004**

*Revenues.*TheCompany’s revenues increased $166.2 million, or 20.2%, from $821.5 million in2004 to $987.7 million in 2005. The Company handled 12.4 million handsets(4.1 million consigned) in 2005 compared to 9.1 million handsets (3.2million consigned) in 2004. The average selling price of handsets for 2005 was$109 compared to $126 in 2004, primarily due to a decrease in the averageselling price in the Company’s Miami operations.

North American Region revenues were $462.6 million, anincrease of $23.2 million, compared to $439.4 million in 2004. This increase inrevenues was predominantly due to an increase in the region’s regional carrierbusiness resulting primarily from new model promotions in 2005, and an increasein the insurance replacement business. The increase in the regional carrierbusiness of $48.6 million was due to the expansion of the Company’srelationship with one of its regional carrier group customers to include someof the Company’s logistics solutions. The increase in the insurance replacement business was due to a changein the product mix for the insurance replacement business where the ratio ofnew to refurbished phones increased. In 2005, there was a higher mix of newphones which have a higher average sales price. A big driver of the region’srevenues in 2005 was the insurance replacement business. Lock/line LLC, ourlargest customer in the Region, accounted for $115.0 million, or 25%, of ourfiscal 2005 revenue in the North American Region, and contributed 12% of ourrevenues on a consolidated basis compared to $93.1 million in 2004 (11% ofconsolidated revenues and 21% of our revenues in the North American Region).  These increases in the regional carrier andinsurance replacement business were partially offset by a decline in theindirect channel business as a result of a major carrier’s decision to changeits distribution strategy and as well as the change in the relationship withCricket Communications, Inc. (“Cricket”). In January 2004, the Companyannounced that it would cease providing fulfillment and logistics services forwhat was previously one of the region’s largest customers, Cricket, as well asits indirect sales channels, at the expiration of the agreement related tothose services. The agreement expired on February 25, 2004. Companymanagement believes that the pricing requested by Cricket going forward wouldnot have met the Company’s desired profitability. Revenues from Cricket and itsindirect sales channel represented approximately 3.0% ($24.4 million) of theCompany’s consolidated revenues for 2004.

The Company’s operations in the Latin American Regionprovided $525.1 million of revenues in 2005, compared to $382.1 million in2004, a $143.0 million increase. Revenues in Mexico were $234.7 millioncompared to $179.7 million in 2004. The increase in revenues was primarily dueto the Company’s efforts in Mexico to focus on the largest carrier in thecountry, Telcel.  Revenues associatedwith Telcel were $149.4 million in 2005 and $122.7 million in 2004.  Revenues from the Company’s Colombiaoperations were $16.3 million in 2004. In the second quarter of 2003, theCompany shifted the majority of its business with its major carrier customer inColombia to the Company’s Miami export operations and in the second quarter of2004, the Company completed the divestiture of its operations in Colombia to agroup that included local management. Revenues from the Company’s Miami exportoperations were $272.4 million in 2005 compared to $159.9 million in 2004primarily due to increased business with the major carrier customer in Colombiaand the Company’s expanded relationship with the carrier in support of itstechnology transition from CDMA to GSM. The major carrier customer in Colombiawas acquired by Telefonica  in January2005. Telefonica immediately initiated aggressive promotions in the countryconsisting primarily of low end handsets supplied by the Company’s Miamioperations. Revenues from Telefonica were $186.2 million in 2005.  As a result of the promotions, the averageselling price of handsets in the Company’s Miami operations dropped from $123in 2004 to $76 in 2005. Revenues from the Company’s operations in Chile were$18.0 million in 2005 compared to $26.2 million in 2004 due to a decrease inspot sales.

*Gross Profit.*Grossprofit increased $1.7 million from $48.6 million in 2004 to $50.3 million in2005. Gross profit as a percentage of revenues was 5.1% for 2005, compared to5.9% for 2004.

Whilegross profit increased, the margin percentage in the North American Regionremained flat. The increase in gross profit was primarily due to the increasein revenues ($23.2 million) along with a decline in inventory obsolescence,from $7.5 million in 2004 to $2.1 million in 2005. In the fourth quarter of2004, the region recorded approximately $3.5 million of obsolescence expenseassociated with non-handset  relatedproducts. The Company was not successful in its expansion into new productsoutside of its traditional handset business. In 2005, the insurance replacementbusiness saw an increase in the percentage of new handsets sold, which have ahigher average sales price but which have a lower margin than refurbishedphones.

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Gross profit and margin percentage decreased in theLatin American Region primarily due to the impact of the major carrier customerin Colombia. Although revenues were higher with this customer, the marginpercentage was generally lower. Telefonica initiated aggressive promotions inthe country consisting primarily of low end handsets supplied by the Company’sMiami operations. Inventory obsolescence in the region was a recovery of $0.3million in 2005 compared to an expense of $1.9 million in 2004.

*Selling, General and AdministrativeExpenses.*Selling, general and administrative expensesdecreased $7.4 million from $58.6 million in 2004 to $51.2 million in 2005primarily due to decreases in professional fees ($3.0 million) and payroll andbenefits ($2.5 million). The decline in professional fees is primarily attributableto a decline in fees associated with compliance with the Sarbanes-Oxley Act of2002 as well as a decline in legal fees. The decrease in payroll and benefitsoccurred in the North American and Corporate segments as the Company continuesits efforts to adjust its current overhead.

*Interest Expense.*Interestexpense in 2005 was $3.8 million compared to $3.4 million in the prior yearprimarily due to an increase in the borrowing rate.

*Loss on sale of accounts receivable.*The Company recognized $2.4 million in losses on sales ofaccounts receivable in 2005 compared to $0.4 million in the prior year. TheCompany has agreements with financing companies whereby it may sell anundivided interest on a continuing basis trade receivables from certain of itscarrier customers. In 2005, the Company increased its sale of trade receivablesdue to tightening of credit with its vendors and to assist in meeting itsfinancing needs.

*Income Taxes.*Incometax expense was $0.8 million and $23.2 million in 2005 and 2004, respectively.Although the Company had a loss before income taxes in 2005, the Company didnot recognize a benefit for the operating losses as the Company did notconsider it more likely than not that the benefit of the operating losses wouldbe realized. The Company also had a loss in 2004, however, increases in thevaluation allowances attributable to the Company’s U.S. operations resulted inincome tax expense.

*Discontinued Operations.*Asdiscussed in Note 11 to the Consolidated Financial Statements, the Company exitedthe Asia-Pacific Region in 2005.

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**Liquidity and Capital Resources**

The following table summarizes the Company’scontractual obligations at November 30, 2006 (amounts in thousands):
| ** **                                                        | ** ** | ** ** | ** ** | **Payments Due By Period** | ** ** |
|-------------------------------------------------------------------|------------|------------|------------|-------------------------------------------|------------|
| ** **                                                        | ** ** | **Total**  | ** ** | **Less than  One Year**         | ** ** | **One to  Three Years** | ** ** | **Four to  Five Years** | ** ** | **More than  Five Years** | ** ** |
| Contractual  obligations                                          |       |       |       |                                      |       |   |   |   |   |   |   |
| Notes payable                                                     |       |       |       |                                      |       |   |   |   |   |   |   |
| Amended facility (variable interest, 8.25% at  November 30, 2006) |       | $          | 33,469     |                                      | 33,469     |   | — |   | — |   | — |   |
| 12% Senior subordinated notes                                     |       | 1,915      |       | —                                    |       | 1,915 |   | — |   | — |   |
| Term loan                                                         |       | 10,160     |       | 1,000                                     |       | 9,160 |   | — |   | — |   |
| Operating leases (a)                                              |       | 5,770      |       | 2,376                                     |       | 2,806 |   | 588 |   | — |   |
|                                                              |       |       |       |                                      |       |   |   |   |   |   |   |
| Total contractual  obligations                                    |       | $          | 51,314     |                                      | 36,845     |   | 13,881 |   | 588 |   | — |   |

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(a)             Substantiallyall of the operating leases are expected to be assumed by the purchasers in theproposed transactions.

TheCompany was able to utilize funds generated from each of the respectiveoperations, trade credit lines available from its suppliers, borrowings underthe Company’s Amended Facility, and factoring of accounts receivable to meetits financing needs during the year ended November 30, 2006. The Companyis dependent on maintaining open vendor trade credit lines on reasonable terms.The Company believes the current credit lines will allow it to meet itsanticipated product needs from Motorola and other vendors.  Interruptionof these lines could have a material adverse impact on the Company’s business.

Basedupon current and forecasted operating results, the Company anticipates that itscash flow from operations, together with amounts available under its creditfacilities and existing cash balances, will be adequate to meet its anticipatedcash requirements for at least the next twelve months.  However, funds will not be sufficient for theCompany to significantly expand its business. In the event that existing cash balances, cash flows and availableborrowings under the credit facilities are not sufficient to meet future cashrequirements, the Company may be required to reduce planned expenditures or seekadditional financing. We cannot assure you that reductions in plannedexpenditures would be sufficient to cover shortfalls in available cash or thatadditional financing would be available or, if available, offered on termsacceptable to us.

InNorth America, the credit terms granted by the Company generally coincide withthe credit terms it receives from its vendors. In the Latin America Region, the Company’s credit terms frequentlyexceed by 30 to 60 days the terms received from the Company’s vendors and as aresult the Company factors receivables or requests early payment at a discountas necessary to make payments to its vendors. Compared to November 30,2005, accounts receivable increased from $98.4 million to $114.3 million atNovember 30, 2006. 92% of the Company’s trade accounts receivable atNovember 30, 2006 were current, compared to 95% at November 30, 2005. Theaverage accounts receivable balance for the quarter ended November 30,2005, was $89.0 million compared to $94.2 million for the quarter endedNovember 30, 2006. Accounts receivable days sales outstanding for thequarter ended November 30, 2006, based on monthly accounts receivablebalances, were 30.4, compared to 36.7 for the quarter ended November 30,2005. The drop in days sales outstanding was primarily due to lock/line.  Lock/line’s terms with the Company were 60days.  North America accounts receivabledecreased by $7.0 million primarily due to the decline in the business withlock/line LLC. Accounts receivable have increased by $10.7 million and $6.3million in the Mexico and Chile operations, respectively, primarily due toincreased revenues in the fourth quarter in the Mexico operations primarily dueto vendor promotions, including financing promotions received by the Company andpassed on to customers, and an increase in revenues in the fourth quarter of2006 with the major carrier customer in Chile.

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Inventoriesdecreased to $68.8 million at November 30, 2006, from $81.5 million atNovember 30, 2005, primarily due to a decrease of $14.0 million in theCompany’s North American Region. The decline in North America is primarily aresult of the decrease in business with lock/line LLC.  Inventoriesincreased $6.7 million in Chile in anticipation of increased revenues to amajor carrier customer.   Inventory turns for the quarter endedNovember 30, 2006, based on monthly inventory balances, were 12.3 turns,compared to 10.8 for the quarter ended November 30, 2005. Accounts payableincreased to $158.4 million at November 30, 2006, compared to $146.3 million at November 30,2005, primarily due to an increase of $40.7 million in the Company’s LatinAmerica operations due to the increased business in the fourth quarter of 2006in the Company’s Mexico and Chile operations. Accounts payable declined in North America primarily as a result of thedecrease in business with lock/line LLC.

AtNovember 30, 2005, the Company had an $85.0 million facility with a bankthat was to expire in November 2006, or in the event that the Companyrefinanced its Senior Notes, the facility was to expire September 2007. OnMarch 31, 2006, the Company entered into the Amended Facility with thebank, which extended the term of the facility until September 27, 2009.The borrowing rate under the Amended Facility was reduced from prime plus 0.5%to prime for the prime rate option and London Interbank Offered Rate (“LIBOR”)plus 3.5% to LIBOR plus 2.5% for the LIBOR option.

TheAmended Facility is considered a current liability as the lender has dominionover cash receipts related to the Company’s domestic operations, and theAmended Facility contains an acceleration clause that the lenders could chooseto invoke if the Company were to commit an event of default. Funding under theAmended Facility is limited by a borrowing base test, which is measured weeklyon eligible domestic accounts receivable and inventory. The Amended Facility issecured by a pledge of 100% of the outstanding stock of all U.S. subsidiariesand 65% of the outstanding stock of all first tier foreign subsidiaries asdefined by the Amended Facility. The Amended Facility is further secured by theCompany’s domestic accounts receivable, inventory, property, plant andequipment and all other domestic real property and intangible assets. TheAmended Facility contains, among other provisions, covenants relating to themaintenance of certain financial ratios, and restrictions on dividend payments,entering into additional debt, mergers and acquisitions and disposition ofassets. As of November 30, 2006, the Company had borrowed $33.5 million at aninterest rate of 8.25%, an increase of $3.0 million from $30.5 million atNovember 30, 2005. The Company had additional borrowing availability underthe Amended Facility of $6.0 million at November 30, 2006, compared to$18.2 million at November 30, 2005. The Company experienced a decline inthe borrowing base since November 30, 2005, primarily due to the decline in thebusiness with lock/line LLC. The borrowing base is calculated based uponeligible domestic accounts receivable and inventory. The Company experienced asimilar decline in the need for working capital as a result of the lock/lineLLC transition.

AtFebruary 6, 2007, the Company had borrowed $11.0 million at an interest rate of8.25% and had additional borrowing availability of $23.8 million under theAmended Facility.

On July6, 2006, the Company finalized an amendment to its Amended Facility, modifyingcertain terms and conditions of the Amended Facility to allow the Company’soperations in Chile to factor certain receivables in order to provide workingcapital to those operations.

OnAugust 31, 2006, the Company finalized an amendment to its Amended Facility toallow the Company to enter into a term loan to provide funding to redeem its SeniorNotes.

OnOctober 4, 2006, the Company obtained a waiver from the bank for the Companyexceeding its factoring limit in Mexico.  Without this waiver, the Companywould not have been in compliance with the covenant.

OnOctober 31, 2006, the Company finalized an amendment to its Amended Facility,increasing the amount of receivables the Company’s operations in Chile canfactor from $20.0 million to $40.0 million.

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AtNovember 30, 2006, and November 30, 2005, the Company had outstanding $1.9million and $12.4 million, respectively, of Senior Notes due January 2007bearing interest at 12%, payable in cash in arrears semi-annually onFebruary 15 and August 15. The Senior Notes were issued as part of atroubled debt restructuring in 2002, and accordingly the future interestpayments were accrued at the restructuring date. At November 30, 2006, andNovember 30, 2005, the Company had $0.1 million and $2.1 million,respectively, of interest accrued for future interest payments. The SeniorNotes contained certain covenants that restricted the Company’s ability toincur additional indebtedness; make investments, loans and advances; declaredividends or certain other distributions; create liens; enter intosale-leaseback transactions; consolidate; merge; sell assets and enter intotransactions with affiliates.

OnAugust 31, 2006, the Company entered into a Term Loan with a financecompany.   Pursuant to the Term Loan, the finance company agreed toprovide the Company with the financing to purchase and/or redeem its SeniorNotes.   The borrowing rate under the Term Loan is LIBOR plus 7.5%,or a base rate plus an applicable margin. The Term Loan matures September 27,2009. The Term Loan will be amortized to an outstanding balance of $10 millionat the rate of approximately $1 million per year payable in quarterlyinstallments beginning September 30, 2006, with interest-only paymentsthereafter throughout the remainder of the Term Loan. Interest payments are dueon the first day of each month following the first distribution of funds.  On September 29, 2006, the Company made aninstallment payment of $250 thousand.

TheTerm Loan is subordinated to the Amended Facility.  The Term Loan issecured by a pledge of 100% of the outstanding stock of all U.S. subsidiariesand 65% of the outstanding stock of all first tier foreign subsidiaries asdefined by the Term Loan. The Term Loan is further secured by the Company’sdomestic accounts receivable, inventory, property, plant and equipment and allother domestic real property and intangible assets. The Term Loan contains,among other provisions, covenants relating to the maintenance of certainfinancial ratios, and restrictions on dividend payments, entering intoadditional debt, mergers and acquisitions and disposition of assets.

OnSeptember 7, 2006, the Company redeemed $10.5 million of Senior Notes at a onepercent discount.  The Company recognized a gain on the transaction forthe quarter ended November 30, 2006 of $0.6 million which also includes thereversal of interest previously accrued. The Company did not recognize as interest expense the interest paymentson the Senior Notes as these were accrued as part of the troubled debtrestructuring.  Beginning in the fourth quarter of 2006, the Companyrecognized as expense the interest payments on the Term Loan.  As of November 30, 2006, the Company hadborrowed $10.4 million at  interest ratesranging from 12.9% to 14.5% and had additional borrowing availability of $1.9million under the Term Loan.  On December15, 2006, the Company redeemed, at par, the remaining $1.9 million of SeniorNotes.

InApril 2005, the Company’s joint venture in Mexico, CII, was formed.  As additional consideration for its 51%interest in CII, CELEX is committed to pay an additional $4.0 million to theindividual partners of Wireless Solutions, payable in the form of a cumulativepreferred dividend, of the earnings of CII which otherwise would be distributedto CELEX.  No earnings shall bedistributed to CELEX as long as any portion of the preferred dividend remainsunpaid. As of November 30, 2006, $0.4 million of the preferred dividendhad been paid to the individual partners of Wireless Solutions. At November 30,2006, $2.0 million of minority interest was accrued related to the 49% interestheld by the individual partners of Wireless Solutions. The calendar 2006preferred dividend will be distributed following the expected completion of theannual statutory accounts for CII in March 2007. If the Mexico Sale is approvedby the stockholders, the Mexico Sale Agreement stipulates that no additionalpreferred dividends will be payable after the required calendar 2006 dividend.

TheCompany has an agreement with a financing company whereby it may sell, withoutrecourse, unlimited trade receivables from Telefonica. **  **The annual discount rates onthe sale agreements range from 5.8% to 11.4%. The Company has agreements with various financing institutions in Chilewhereby it may sell, without recourse, up to $40 million of trade receivablesfrom its major carrier customer in Chile at annual discount rates ranging from5.8% to 6.6%.  The Company has similaragreements in Mexico whereby it may sell, without recourse, trade receivablesfrom a national retailer at annual discount rates of 6.1% to 7.1%.  These sale transactions are accounted for asa sale of receivables following the provisions of FASB Statement No. 140 “Accountingfor Transfers and Servicing of Financial Assets and Extinguishments ofLiabilities—A Replacement of FASB Statement No. 125.” At November 30,2006 and 2005, the Company had $35.0 million and $25.8 million, respectively,of accounts receivable outstanding that had been sold and removed from theconsolidated balance sheet. The loss on the sale of accounts receivable was$2.6 million and $2.4 million for the years ended November 30, 2006 and2005, respectively.

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UntilSeptember 2006, the Company sold certain of its trade receivables from Telcelto a financial institution.  Beginning in September 2006, Telcel beganpurchasing from the Company through a different legal entity.  Inconjunction with this change, Telcel invoices are no longer factored with thefinancial institution.  Instead, the invoices are presented for earlypayment within Telcel at a current annual rate of approximately 6%.  TheCompany does not expect this change to have a material impact on liquidity orthe results of operations.  This early paymentdiscount is included as a reduction of revenues.  Early payment discounts from Telcel relatedto this program were $0.6 million in 2006.

**Impact of Inflation**

Historically, inflation has not had a significantimpact on CellStar’s overall operating results as the majority of the Company’sbusiness is in markets that are relatively stable. However, the effects ofinflation could have a material adverse impact on the Company if the marketsbecome unstable. The following table summarizes the revenues and percentages ofconsolidated revenues for the Company’s geographical operations for the yearended November 30, 2006 (dollars in thousands):

| Operation | ** ** | **Revenues** | ** ** | **Percentage** | ** ** |
|-----------|------------|--------------|------------|----------------|------------|
|      |       |         |       |           |       |
| U.S.      |       | $            | 408,548    |           | 43.3       | % |
| Mexico    |       | 290,709      |       | 30.8           |       |
| Miami     |       | 191,044      |       | 20.3           |       |
| Chile     |       | 52,839       |       | 5.6            |       |
|      |       |         |       |           |       |
| Total     |       | $            | 943,140    |           | 100.0      | % |

 

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**Critical Accounting Policies**

Note (1) of the Notes to the ConsolidatedFinancial Statements includes a summary of the significant accounting policiesused in the preparation of the Company’s Consolidated Financial Statements. Thefollowing is a brief discussion of the Company’s more critical accountingpolicies and estimates.

*(a) Significant Estimates*

Management of the Company has made a number ofestimates and assumptions related to the reporting of assets and liabilities inpreparation of the consolidated financial statements in conformity withaccounting principles generally accepted in the United States of America. Themost significant estimates relate to the allowance for doubtful accounts, thereserve for inventory obsolescence, goodwill and intangible impairment and thedeferred tax asset valuation allowance. Actual amounts could differsignificantly from management’s estimates.

In determining the adequacy of the allowance fordoubtful accounts, management considers a number of factors including the agingof the receivable portfolio, customer payment trends, financial condition ofthe customer, economic conditions in the customer’s country, and industryconditions.

In determining the adequacy of the reserve for inventoryobsolescence, management considers a number of factors including the aging ofthe inventory, recent sales trends, industry market conditions, and economicconditions. In assessing the reserve, management also considers priceprotection credits or other incentives the Company expects to receive from thevendor.

Long-lived assets are reviewed for impairment wheneverevents or changes in circumstances indicate that the carrying amount of anasset may not be recoverable. Recoverability of assets to be held and used ismeasured by a comparison of the carrying amount of an asset to future net cashflows expected to be generated by the asset. If such assets are considered tobe impaired, the impairment to be recognized is measured as the amount by whichthe carrying amount of the assets exceeds the fair value of the assets. Assetsto be disposed of are reported at the lower of the carrying amount or fairvalue less costs to sell.

In assessing the realizability of deferred income taxassets, management considers whether it is more likely than not that thedeferred income tax assets will be realized. At November 30, 2006, theCompany has net deferred income tax assets, net of valuation allowances, of$7.6 million, a significant portion of which relates to net operating losscarryforwards. The ultimate realization of deferred income tax assets isdependent on the generation of future taxable income during the periods inwhich those temporary differences are deductible. Management considers thescheduled reversal of deferred income tax liabilities, projected future taxableincome, and tax planning strategies in making this assessment. Based on thelevel of historical taxable income and projections for future taxable incomeover the periods in which the deferred income tax assets are deductible,including taxable income generated by tax planning strategies, managementdetermines if it is more likely than not that the Company will realize thebenefits of these deductible differences. The most significant factor consideredin determining the realizability of the deferred tax asset was projectedprofitability, including taxable income generated from tax planning strategies,over the next three to five years. The Company needs to generate $21.6 millionin pre-tax income, as well as implement the planned strategies over this periodto fully utilize the net deferred tax asset. Management believes the forecastedresults from the operations in North America and Latin America and related taxstrategies support the net deferred tax asset. The amount of the deferredincome tax asset considered realizable, however, could change in the near termif estimates of future taxable income during the relevant carry-forward periodchange or if the number of years is being considered for these projectionschange.

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*(b) Revenue Recognition*

For the Company’s wholesale business, revenue isrecognized when delivery occurs, the customer takes title and assumes risk ofloss, terms are fixed and determinable, and collectibility is reasonablyassured. The Company does not generally grant rights of return. In instanceswhere right of return is granted at the time of sale, revenue is not recognizeduntil expiration of the right of return. For goods that are considered bill andhold, revenue is recognized when the product is delivered.  Reserves for returns, price discounts andrebates are estimated using historical averages, open return requests, channelinventories, recent product sell-through activity and market conditions.Allowances for returns, price discounts and rebates are based upon management’sbest judgment and estimates at the time of preparing the financial statements.

In accordance with contractual agreements withwireless service providers, the Company receives an activation commission for obtainingsubscribers for wireless services in connection with the Company’s retailoperations. The agreements contain various provisions for additionalcommissions (“residual commissions”) based on subscriber usage. The agreementsalso provide for the reduction or elimination of activation commissions ifsubscribers deactivate service within stipulated periods. The Companyrecognizes revenue for activation commissions when the subscriber activatesservice and provides an allowance for estimated wireless service deactivations,which is reflected as a reduction of accounts receivable and revenues in theaccompanying consolidated financial statements. The Company recognizes residualcommissions when received. The Company recognizes fee service revenue when the serviceis completed or, if applicable, upon shipment of the related product, whicheveris later. The Company recognizes revenue for reselling airtime from carriersupon its purchase by consumers.

*(c) Vendor Credits and Allowances*

The Company recognizes price protection credits;sell-through credits, advertising allowances and volume discounts in the periodthe agreement was made so long as the terms are supported by a writtenagreement. If not supported by a written agreement, the Company recognizes whenreceived. The timing of receiving the written agreements can cause variationsin our gross margins and operating results.

Price protection credits and other incentives areapplied against inventory and cost of goods sold, depending on whether therelated inventory is on-hand or has been previously sold. Sell-through creditsare recorded as a reduction in cost of goods sold as the products are sold.Advertising allowances are generally for the reimbursement of specificincremental, identifiable costs incurred by the Company and are recorded as areduction of the related cost. Allowances in excess of the specific costsincurred, if any, are recorded as a reduction in cost of goods sold orinventory, depending on whether the related inventory is on-hand or has beenpreviously sold.

*(d) Stock Based Compensation*

Prior to fiscal 2006, the Company accounted for itsstock options under the recognition and measurement provisions of APB OpinionNo. 25, “Accounting for Stock Issued to Employees,” and relatedinterpretations. Effective December 1, 2005, the Company adopted theprovisions of SFAS No. 123 (Revised 2004), “Share-Based Payments” (SFAS123(R)), and selected the modified prospective method to initially reportstock-based compensation amounts in the consolidated financial statements. TheCompany is currently using the Black-Scholes option pricing model to determinethe fair value of all option grants. The Company has not granted any stockoptions since January 2005. The Company expects to issue primarily restrictedstock in future periods.

*(e) Adoption of Staff Accounting Bulletin No. 108*

OnSeptember 13, 2006, the SEC issued Staff Accounting Bulletin No. 108 (“SAB 108”). SAB 108 expresses the SEC Staff’s views regarding the process of evaluatingmateriality of financial statement misstatements.  SAB 108 addresses thediversity in evaluating materiality of financial statement misstatements andthe potential under current practice used by the Company for the build up ofimproper amounts on the balance sheet.  SAB 108 is effective for theCompany for the year ended November 30, 2006.  As allowed by SAB 108, thecumulative effect of the initial application of SAB 108 has been reported inthe carrying amounts of assets and liabilities as of the beginning of fiscal2006, with the offsetting balance to retained earnings.

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*(f)Accounting Pronouncements Not Yet Adopted*

In July 2006, FASBissued FASB Interpretation No. 48 (FIN 48), “Accounting for Uncertainty inIncome Taxes — an interpretation of FASB Statement No. 109”, whichclarifies the accounting for uncertainty in tax positions. This interpretationrequires that we recognize in our financial statements the impact of a taxposition, if that position is more likely than not of being sustained on audit,based on the technical merits of the position. The provisions of FIN 48 areeffective as of the beginning of our 2008 fiscal year, with the cumulativeeffect of the change in accounting principle recorded as an adjustment toretained earnings. We are currently evaluating the impact of adopting FIN 48 onour financial statements.

In September 2006, theFASB issued FASB Statement No. 157, “Fair Value Measurements”**(“SFAS157”), to provide enhanced guidance when using fair value to measure assets andliabilities. SFAS 157 defines fair value, establishes a framework for measuringfair value in GAAP and expands disclosures about fair value measurements. SFAS157 applies whenever other pronouncements require or permit assets orliabilities to be measured at fair value and, while not requiring new fairvalue measurements, may change current practices. The Company is currentlyevaluating the impact SFAS 157 will have on its consolidated financialstatements. SFAS 157 is effective for the Company beginning in fiscal year2008.

Fromtime to time, new accounting pronouncements are issued by the FASB or otherstandards setting bodies which are adopted by the Company as of the specifiedeffective date. Unless otherwise discussed, management believes the impact ofrecently issued standards which are not yet effective will not have a materialimpact on the Company’s consolidated financial statements upon adoption.

 

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**Item 7(A). Quantitative andQualitative Disclosures About Market Risk**

**Foreign Exchange Risk and Derivative Financial Instruments**

For the years ended November 30, 2006 and 2005,the Company recorded net foreign currency gains of $0.1 million and $1.7million, respectively, in costs of goods sold principally related to currencyfluctuations in the Company’s Mexico operations. The Company’s foreign exchangegains and loss exposure is primarily the Mexican peso. The Company’s exposurein Chile is still relatively limited due to the size of the operations althoughit has increased with the increase in revenues.

The Company manages foreign currency risk byattempting to increase prices of products sold at or above the anticipatedexchange rate of the local currency relative to the U.S. dollar, by utilizingforward purchase contracts, or by having transactions denominated in USdollars. The Company continues to evaluate foreign currency exposures andrelated protection measures.

At November 30, 2006, the Company had forward purchasecontracts relating to USD $6.5 million of its receivables in its Chileoperations, which were denominated in Chilean Pesos. The contracts had termsmatching the length of the receivable, and matured in December 2006.  The Company enters into these forwardpurchase contracts in order to reduce its economic exposure on the dollardenominated accounts payable for the related inventory that was sold.  The change in the fair value of these forwardpurchase contracts are recognized currently in earnings.  At January 31, 2007, the Company hadentered into additional forward purchase contracts in Chile of $8.0million.  Presently, the Company holds noother derivative instruments.

**Interest Rate Risk**

The Company manages its borrowings under the AmendedFacility each business day to minimize interest expense. The interest rate ofthe Amended Facility is an index rate at the time of borrowing plus anapplicable margin on certain borrowings. The interest rate is based on eitherthe agent bank’s prime lending rate or LIBOR. During the year endedNovember 30, 2006, the interest rates of borrowings under the AmendedFacility ranged from 7.5% to 8.25%. (See “Item 7.—Management’s Discussion andAnalysis of Financial Condition and Results of Operations—Liquidity and CapitalResources”). The Company sells certain receivables in its Latin Americanoperations to assist in meeting its financing needs. The effective annual rateson the sale of receivables varied from 5.8% to 11.4%. On August 31, 2006, theCompany entered into a Term Loan with a finance company.  Theborrowing rate under the Term Loan is LIBOR plus 7.5%, or a base rate plus anapplicable margin.  Each one percentchange in variable interest rates impacts interest expense approximately $0.3million and approximately $0.3 million on the loss on sale of accountsreceivable based upon anticipated borrowing levels and sales of accountsreceivable.

**Item 8. Consolidated FinancialStatements and Supplementary Data**

See Index to Consolidated Financial Statements on PageF-1 of this Form 10-K.

**Item 9. Changes in andDisagreements with Accountants on Accounting and Financial Disclosure**

None.

**Item 9A. Controls and Procedures**

The Company’s management, with the participation ofthe Company’s Chief Executive Officer, Chief Administrative Officer and ChiefFinancial Officer, has evaluated the effectiveness of the Company’s disclosurecontrols and procedures (as defined in Exchange Act Rules 13a-15(e)) as of theend of the period covered by this report. Based on that evaluation, the Company’smanagement has concluded that the Company’s disclosure controls and procedureswere effective at November 30, 2006.

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*Management’s Report on Internal Control over FinancialReporting*

The Company’s management, including the ChiefExecutive Officer, Chief Administrative Officer and Chief Financial Officer, isresponsible for establishing and maintaining adequate internal control overfinancial reporting, as such term is defined in Rules 13a-15(f) of the ExchangeAct. The Company’s management, with the participation of the Company’s ChiefExecutive Officer, Chief Administrative Officer and Chief Financial Officer,has evaluated the effectiveness of internal control over financial reporting(as defined in Exchange Act Rules 13a-15(f)) as of the end of the periodcovered by this report. The Company used as its framework the Committee ofSponsoring Organizations of the Treadway Commission’s publication entitled, “InternalControl—Integrated Framework” (the “COSO Framework”).

Our internal control system is designed to providereasonable assurance regarding the reliability of financial reporting and thepreparation of financial statements for external purposes in accordance withgenerally accepted accounting principles. All internal control systems, nomatter how well designed, have inherent limitations. A system of internalcontrol may become inadequate over time because of changes in conditions, ordeterioration in the degree of compliance with the policies or procedures.Therefore, even those systems determined to be effective can provide onlyreasonable assurance with respect to financial statement preparation andpresentation.

We believe that, based on the COSO Framework, as ofNovember 30, 2006, the Company’s internal control over financial reportingis effective to provide reasonable assurance regarding the reliability offinancial reporting and the preparation of financial statements for externalpurposes in accordance with generally accepted accounting principles.  Grant Thornton LLP, our independentregistered public accounting firm, audited management’s assessment andindependently assessed the effectiveness of our internal control over financialreporting.  Their report is includedbelow.

*Changes in Internal Control over FinancialReporting*

Duringthe quarter ended November 30, 2006, the Company upgraded its enterpriseresources planning (“ERP”) system in its Mexico operations.  The upgrade of the ERP system providesupdated technology and automates many previously manual processes.

Duringthe quarter ended November 30, 2006, the Company completed the testing of itsremediation efforts for the material weaknesses identified in 2005. For theyear ended November 30, 2005, management identified as material weaknessesthe following:

·                  Lackof sufficient awareness and formal communication of accounting policies andprocedures, resulting in the inconsistent application of and adherence tocorporate policies; and

·                  Lackof timeliness and precision of the review of detailed account reconciliationsand supporting documentation in the North American and Corporate segments thatencompass the consolidation and financial reporting process.

During 2006, the Companyupdated certain policies identified during 2005 as being inconsistently appliedand held various meetings with finance personnel to increase understanding ofpolicies.  In addition, corporate management increased its review andoversight in these areas throughout 2006.  Also in 2006, staff was addedor realigned to assist in the preparation of the detailed accountreconciliations to allow a more timely and precise review.  Upon completion of its testing during thequarter ended November 30, 2006, management concluded that the material weaknessesidentified in 2005 had been successfully remediated.

No other changes tointernal control over financial reporting were made during the quarter endedNovember 30, 2006.

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**Report of Independent Registered Public AccountingFirm**

Board of DirectorsandShareholders of CellStar Corporation

We have auditedmanagement’s assessment that CellStar Corporation (a Delaware Corporation) andsubsidiaries maintained effective internal control over financial reporting asof November 30, 2006, based on criteria established in *Internal Control — Integrated Framework* issued by theCommittee of Sponsoring Organizations of the Treadway Commission (“COSO”).CellStar Corporation’s management is responsible for maintaining effectiveinternal control over financial reporting and for its assessment of theeffectiveness of internal control over financial reporting. Our responsibilityis to express an opinion on management’s assessment and an opinion on theeffectiveness of CellStar Corporation’s internal control over financialreporting based on our audit.

We conducted ouraudit in accordance with the standards of the Public Company AccountingOversight Board (United States). Those standards require that we plan andperform the audit to obtain reasonable assurance about whether effectiveinternal control over financial reporting was maintained in all materialrespects. Our audit included obtaining an understanding of internal controlover financial reporting, evaluating management’s assessment, testing andevaluating the design and operating effectiveness of internal control, andperforming such other procedures as we considered necessary in thecircumstances. We believe that our audit provides a reasonable basis for ouropinion.

A company’sinternal control over financial reporting is a process designed to providereasonable assurance regarding the reliability of financial reporting and thepreparation of financial statements for external purposes in accordance withgenerally accepted accounting principles. A company’s internal control overfinancial reporting includes those policies and procedures that (1) pertain tothe maintenance of records that, in reasonable detail, accurately and fairlyreflect the transactions and dispositions of the assets of the company; (2)provide reasonable assurance that transactions are recorded as necessary topermit preparation of financial statements in accordance with generallyaccepted accounting principles, and that receipts and expenditures of thecompany are being made only in accordance with authorizations of management anddirectors of the company; and (3) provide reasonable assurance regardingprevention or timely detection of unauthorized acquisition, use, or dispositionof the company’s assets that could have a material effect on the financialstatements.

Becauseof its inherent limitations, internal control over financial reporting may notprevent or detect misstatements. Also, projections of any evaluation ofeffectiveness to future periods are subject to the risk that controls maybecome inadequate because of changes in conditions, or that the degree ofcompliance with the policies or procedures may deteriorate.

In our opinion,management’s assessment that CellStar Corporation and subsidiaries maintainedeffective internal control over financial reporting as of November 30, 2006, isfairly stated, in all material respects, based on criteria established in *Internal Control-Integrated Framework* issued by COSO. Alsoin our opinion, CellStar Corporation and subsidiaries maintained, in allmaterial respects, effective internal control over financial reporting as ofNovember 30, 2006, based on criteria established in *InternalControl-Integrated Framework* issued by COSO.

We have alsoaudited, in accordance with the standards of the Public Company AccountingOversight Board (United States), the consolidated balance sheets of CellStarCorporation and subsidiaries as of November 30, 2006 and 2005, and the relatedconsolidated statements of operations, cash flows and stockholders’ equity foreach of the three years in the period ended November 30, 2006, and our reportdated February 12, 2007 expressed an unqualified opinion on those financialstatements.

/s/ GRANT THORNTON LLP

Dallas, TexasFebruary 12, 2007

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**Item 9B. Other Information**

None.

**PART III**

**Item 10. Directors and ExecutiveOfficers of the Registrant**

The information required by this item regarding ourdirectors is provided under the heading “Election of Directors” in the ProxyStatement to be delivered to our stockholders in connection with our AnnualMeeting of Stockholders to be held during 2007, which information isincorporated herein by reference. The information required by this itemregarding our executive officers is provided under the heading “ExecutiveOfficers of the Registrant” in Item I of this Form 10-K, which information isincorporated herein by reference. The information required by this itemregarding Section 16(a) beneficial ownership reporting compliance isprovided in the Proxy Statement under the heading “Section 16(a) BeneficialOwnership Reporting Compliance,” which is incorporated herein by reference. Theinformation required by this item regarding the Company’s code of ethics isprovided under the heading “Available Information” in Part I of this Form 10-K,which is incorporated herein by reference.

**Item 11. Executive Compensation**

The information required by this item is provided inthe Proxy Statement under the heading “Executive Compensation,” whichinformation is incorporated herein by reference.

**Item 12. Security Ownership ofCertain Beneficial Owners and Management and Related Stockholder Matters**

The information required by this item is provided inthe Proxy Statement under the heading “Security Ownership of Certain BeneficialOwners and Management,” with the exception of Equity Compensation Plan Information,which is provided in Item 5 of this Form 10-K, all of which information isincorporated herein by reference.

**Item 13. Certain Relationshipsand Related Transactions**

The information required by this item is providedunder various headings in the Proxy Statement and is incorporated herein byreference.

**Item 14. Principal AccountingFees and Services**

The information required by this item is provided inthe Proxy Statement under the heading “Principal Accounting Fees and Services,”which information is incorporated herein by reference.

 

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**PART IV.**

**Item 15. Exhibits, FinancialStatement Schedules**

(a) Thefollowing are filed as part of this Annual Report on Form 10-K:

(1) Consolidated Financial Statements

See Index to Consolidated Financial Statements on pageF-1 of this Form 10-K.

(2) Financial Statement Schedules

See Index to Consolidated Financial Statements on pageF-1 of this Form 10-K.

(3) Exhibits

Anindex identifying the exhibits to be filed with this Form 10-K is providedbelow.
| Exhibit  No. | ** ** | **Description**                                                                                                                                                                                                                                         | ** ** | **Previously Filed as an Exhibit to and  Incorporated by Reference From** | ** ** | **Date Filed**              |
|-------------------|------------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|------------------------------------------------------------------------------------------------------------------------|------------|-----------------------------|
|              |       |                                                                                                                                                                                                                                                    |       |                                                                                                                   |       |                        |
| 2.1               |       | Asset Purchase Agreement, dated December 18, 2006,  related to the U.S. Sale (Schedules and exhibits have been omitted, and  CellStar agrees to furnish to the Commission supplementally a copy of any  omitted schedules and exhibits upon request).   |       | Current Report on Form 8-K.                                                                                            |       | December 19, 2006           |
|              |       |                                                                                                                                                                                                                                                    |       |                                                                                                                   |       |                        |
| 2.2               |       | Stock Purchase Agreement, dated December 18, 2006,  related to the Mexico Sale (Schedules and exhibits have been omitted, and  CellStar agrees to furnish to the Commission supplementally a copy of any  omitted schedules and exhibits upon request). |       | Current Report on Form 8-K.                                                                                            |       | December 19, 2006           |
|              |       |                                                                                                                                                                                                                                                    |       |                                                                                                                   |       |                        |
| 3.1               |       | Amended and Restated Certificate of Incorporation of  CellStar Corporation (the “Certificate of Incorporation”).                                                                                                                              |       | Form 10-Q for the quarter ended August 31, 1995.                                                                       |       | October 13, 1995  |
|              |       |                                                                                                                                                                                                                                                    |       |                                                                                                                   |       |                        |
| 3.2               |       | Certificate of Amendment to Certificate of  Incorporation.                                                                                                                                                                                              |       | Form 10-Q for the quarter ended May 31, 1998.                                                                          |       | July 14, 1998               |
|              |       |                                                                                                                                                                                                                                                    |       |                                                                                                                   |       |                        |
| 3.3               |       | Certificate of Amendment to Certificate of  Incorporation dated as of February 20, 2002 (the “Second Certificate of  Amendment”).                                                                                                             |       | Form 10-K for the fiscal year ended November 30,  2002.                                                                |       | February 28, 2003 |
|              |       |                                                                                                                                                                                                                                                    |       |                                                                                                                   |       |                        |
| 3.4               |       | Amended and Restated Bylaws of CellStar Corporation,  effective as of May 1, 2004.                                                                                                                                                                      |       | Form 10-Q for the quarter ended May 31, 2004.                                                                          |       | July 15, 2004               |

 

45

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| 4.1    |   | The Certificate of Incorporation, Certificate of  Amendment to Certificate of Incorporation, Second Certificate of Amendment  and Amended and Restated Bylaws of CellStar Corporation filed as Exhibits  3.1, 3.2, 3.3 and 3.4 are incorporated into this item by reference.                                                                                        |   | See above.                                         |   |              |
|--------|--------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|----------------------------------------------------|--------|-------------------|
|   |   |                                                                                                                                                                                                                                                                                                                                                                |   |                                               |   |              |
| 4.2    |   | Specimen Common Stock Certificate of CellStar  Corporation.                                                                                                                                                                                                                                                                                                         |   |                                               |   | Filed herewith.   |
|   |   |                                                                                                                                                                                                                                                                                                                                                                |   |                                               |   |              |
| 10.1   |   | Amended and Restated Loan and Security Agreement,  dated as of March 31, 2006, by and among CellStar Corporation and each of  CellStar Corporation’s subsidiaries signatory thereto, as borrowers, the  lenders signatory thereto, as lenders, and Wells Fargo Foothill, Inc. (f/k/a  Foothill Capital Corporation), as the arranger and administrative agent. |   | Form 10-Q for the quarter ended February 28, 2006. |   | April 10, 2006    |
|   |   |                                                                                                                                                                                                                                                                                                                                                                |   |                                               |   |              |
| 10.2   |   | Consent, dated as of May 25, 2006, by and among  CellStar Corporation and each of CellStar Corporation’s subsidiaries  signatory thereto, as borrowers, Wells Fargo Foothill, Inc., as agent and a  lender, and Bank of America, N.A., and Textron Financial Corporation, as  lenders.                                                                         |   | Current Report on Form 8-K.                        |   | May 31, 2006      |
|   |   |                                                                                                                                                                                                                                                                                                                                                                |   |                                               |   |              |
| 10.3   |   | First Amendment to Amended and Restated Loan  Agreement, dated as of July 12, 2006, by and among CellStar Corporation and  each of CellStar Corporation’s subsidiaries signatory thereto, as borrowers,  Bank of America, N.A., and Wells Fargo Foothill, Inc.                                                                                                 |   | Current Report on Form 8-K.                        |   | July 12, 2006     |
|   |   |                                                                                                                                                                                                                                                                                                                                                                |   |                                               |   |              |
| 10.4   |   | Second Amendment to Amended and Restated Loan  Agreement, dated August 31, 2006, by and among CellStar Corporation and each  of CellStar Corporation’s subsidiaries signatory thereto, as borrowers, Wells  Fargo Foothill, Inc., as agent and a lender, and Bank of America, N.A., and  Textron Financial Corporation, as lenders.                            |   | Current Report on Form 8-K.                        |   | September 1, 2006 |
|   |   |                                                                                                                                                                                                                                                                                                                                                                |   |                                               |   |              |
| 10.5   |   | Waiver, effective as of October 4, 2006, executed by  and among CellStar Corporation and each of CellStar Corporation’s  subsidiaries signatory thereto, as borrowers, Wells Fargo Foothill, Inc., as  agent and a lender, and Bank of America, N.A., and Textron Financial  Corporation, as lenders.                                                          |   | Form 10-Q for the quarter ended August 31, 2006.   |   | October 5, 2006   |

 

46

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| 10.6   |   | Waiver and Consent, as of October 26, 2006, by and  among CellStar Corporation and each of CellStar Corporation’s subsidiaries  signatory thereto, as borrowers, Wells Fargo Foothill, Inc., as agent and a  lender, and Bank of America, N.A., and Textron Financial Corporation, as  lenders.                                     |   | Current Report on Form 8-K.                             |   | November 1, 2006  |
|--------|--------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|---------------------------------------------------------|--------|-------------------|
|   |   |                                                                                                                                                                                                                                                                                                                                     |   |                                                    |   |              |
| 10.7   |   | Third Amendment to Amended and Restated Loan  Agreement, dated October 31, 2006, by and among CellStar Corporation and each  of CellStar Corporation’s subsidiaries signatory thereto, as borrowers, Wells  Fargo Foothill, Inc., as agent and a lender, and Bank of America, N.A., and  Textron Financial Corporation, as lenders. |   | Current Report on Form 8-K.                             |   | November 1, 2006  |
|   |   |                                                                                                                                                                                                                                                                                                                                     |   |                                                    |   |              |
| 10.8   |   | Term Loan and Security Agreement, dated  August 31, 2006, by and among CellStar Corporation and each of CellStar  Corporations’ subsidiaries signatory thereto, as borrowers, and CapitalSource  Finance LLC, as agent and lender.                                                                                             |   | Current Report on Form 8-K.                             |   | September 1, 2006 |
|   |   |                                                                                                                                                                                                                                                                                                                                     |   |                                                    |   |              |
| 10.9   |   | First Amendment to Term Loan and Security Agreement,  dated October 31, 2006, by and among CellStar Corporation and each of  CellStar Corporation’s subsidiaries signatory thereto, as borrowers, and  CapitalSource Finance LLC, as agent and lender.                                                                              |   | Current Report on Form 8-K.                             |   | November 1, 2006  |
|   |   |                                                                                                                                                                                                                                                                                                                                     |   |                                                    |   |              |
| 10.10  |   | Letter Agreement dated as of August 31, 2006, by and  between CellStar Corporation and Quattro Global Capital LLC.                                                                                                                                                                                                                       |   | Current Report on Form 8-K.                             |   | September 7, 2006 |
|   |   |                                                                                                                                                                                                                                                                                                                                     |   |                                                    |   |              |
| 10.11  |   | CellStar Corporation Amended and Restated Annual  Incentive Compensation Plan, effective as of March 22, 1996.*                                                                                                                                                                                                                          |   | Form 10-K for the fiscal year ended November 30,  1996. |   | February 28, 1997 |
|   |   |                                                                                                                                                                                                                                                                                                                                     |   |                                                    |   |              |
| 10.12  |   | First Amendment to the CellStar Corporation Amended  and Restated Annual Incentive Compensation Plan, executed as of September 10,  2002.*                                                                                                                                                                                               |   | Form 10-K for the fiscal year ended November 30,  2002. |   | February 28, 2003 |

 

47

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| 10.13  |   | Separation Agreement and Release, dated as of July  5, 2001, by and between Alan H. Goldfield and CellStar Corporation and  Its Affiliates.*                                              |   | Form 10-Q for the quarter ended May 31, 2001.                                               |   | July 12, 2001               |
|--------|--------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|---------------------------------------------------------------------------------------------|--------|-----------------------------|
|   |   |                                                                                                                                                                                           |   |                                                                                        |   |                        |
| 10.14  |   | CellStar Corporation 2003 Long-Term Incentive Plan,  effective as of March 13, 2003.*                                                                                                          |   | Appendix C to the Company’s Proxy Statement on  Schedule 14A for the 2002 fiscal year. |   | December 22, 2003 |
|   |   |                                                                                                                                                                                           |   |                                                                                        |   |                        |
| 10.15  |   | Form of Incentive Stock Option Agreement under the  CellStar Corporation 2003 Long-Term Incentive Plan.*                                                                                       |   | Registration Statement on Form S-8 (File no.  333-121590).                                  |   | December 23, 2004           |
|   |   |                                                                                                                                                                                           |   |                                                                                        |   |                        |
| 10.16  |   | Form of Non-Qualified Stock Option Agreement under  the CellStar Corporation 2003 Long-Term Incentive Plan.*                                                                                   |   | Registration Statement on Form S-8 (File no.  333-121590).                                  |   | December 23, 2004           |
|   |   |                                                                                                                                                                                           |   |                                                                                        |   |                        |
| 10.17  |   | Form of Restricted Stock Award Agreement under the  CellStar Corporation 2003 Long-Term Incentive Plan.*                                                                                       |   | Current Report on Form 8-K.                                                                 |   | November 21, 2005 |
|   |   |                                                                                                                                                                                           |   |                                                                                        |   |                        |
| 10.18  |   | Form of Amendment to Restricted Stock Award Agreement  under the CellStar Corporation 2003 Long-Term Incentive Plan.*                                                                          |   |                                                                                        |   | Filed herewith.        |
|   |   |                                                                                                                                                                                           |   |                                                                                        |   |                        |
| 10.19  |   | Amended and Restated Employment Agreement, effective  as of May 1, 2004, by and among CellStar, Ltd., CellStar Corporation and  Robert A. Kaiser.*                                        |   | Form 10-Q for the quarter ended May 31, 2004.                                          |   | July 15, 2004          |
|   |   |                                                                                                                                                                                           |   |                                                                                        |   |                        |
| 10.20  |   | First Amendment to Amended and Restated Employment  Agreement, executed May 2, 2005, by and among CellStar, Ltd., CellStar  Corporation and Robert Kaiser.*                                    |   | Current Report on Form 8-K.                                                                 |   | May 6, 2005                 |
|   |   |                                                                                                                                                                                           |   |                                                                                        |   |                        |
| 10.21  |   | CellStar Corporation Restricted Stock Award  Agreement and Tandem Grant of Stock Appreciation Rights, effective as of May  2, 2005, by and between CellStar Corporation and Robert A. Kaiser.* |   | Form 10-Q for the quarter ended August 31, 2005.                                            |   | October 11, 2005            |
|   |   |                                                                                                                                                                                           |   |                                                                                        |   |                        |
| 10.22  |   | Employment Agreement, executed on April 27,  2005, and effective as of April 30, 2005, by and among CellStar, Ltd.,  CellStar Corporation and Terry S. Parker.*                 |   | Current Report on Form 8-K.                                                                 |   | May 3, 2005       |
|   |   |                                                                                                                                                                                           |   |                                                                                        |   |                        |
| 10.23  |   | Agreement, dated March 30, 2005, by and between  CellStar, Ltd. and Raymond L. Durham.*                                                                                                   |   | Form 10-K for the fiscal year ended November 30,  2004.                                     |   | September 6, 2005 |

 

48

----

 
| 10.24  |   | Agreement, dated March 30, 2005, by and between CellStar,  Ltd. and Juan Martinez.*                                                                                         |   | Form 10-K for the fiscal year ended November 30,  2004.   |   | September 6, 2005           |
|--------|--------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|-----------------------------------------------------------|--------|-----------------------------|
|   |   |                                                                                                                                                                        |   |                                                      |   |                        |
| 10.25  |   | Employment Agreement by and among CellStar, Ltd.,  CellStar Corporation and Michael J. Farrell, dated as of November 15, 2005.*                                             |   | Current Report on Form 8-K.                               |   | November 21, 2005 |
|   |   |                                                                                                                                                                        |   |                                                      |   |                        |
| 10.26  |   | Employment Agreement, effective as of January 14,  2007, by and among CellStar, Ltd., CellStar Corporation, and Elaine Flud  Rodriguez.*                                    |   | Current Report on Form 8-K.                               |   | November 21, 2006           |
|   |   |                                                                                                                                                                        |   |                                                      |   |                        |
| 10.27  |   | Form of CellStar Corporation Indemnification  Agreement.*                                                                                                                   |   | Current Report on Form 8-K.                               |   | July 13, 2005               |
|   |   |                                                                                                                                                                        |   |                                                      |   |                        |
| 10.28  |   | Stock Purchase Agreement, dated August 21,  2005, by and among CellStar International Corporation/Asia, Newco and  An-Hsien Horng.                                     |   | Current Report on Form 8-K.                               |   | August 25, 2005             |
|   |   |                                                                                                                                                                        |   |                                                      |   |                        |
| 10.29  |   | Amended and Restated Stock Purchase Agreement, dated  August 24, 2005, by and among CellStar International Corporation/Asia, Fine  Day Holdings Limited and An-Hsien Horng. |   | Current Report on Form 8-K.                               |   | August 25, 2005             |
|   |   |                                                                                                                                                                        |   |                                                      |   |                        |
| 10.30  |   | Letter Agreement executed on September 1, 2005, by  and between Fine Day Holdings Limited and CellStar International  Corporation/Asia.                                     |   | Form 10-K for the fiscal year ended November 30,  2004.   |   | September 6, 2005           |
|   |   |                                                                                                                                                                        |   |                                                      |   |                        |
| 10.31  |   | Agreement and Mutual Release, entered into on  September 2, 2005, by and among CellStar (Asia) Corporation Limited, CellStar  Corporation, and Hong An-Hsien.               |   | Form 10-K for the fiscal year ended November 30,  2004.   |   | September 6, 2005           |
|   |   |                                                                                                                                                                        |   |                                                      |   |                        |
| 10.32  |   | Industrial Lease Agreement, executed December 9,  2003, by and between Texas Dugan Limited Partnership and CellStar, Ltd.                                                   |   | Form 10-K/A for the fiscal year ended November 30,  2005. |   | March 30, 2006              |
|   |   |                                                                                                                                                                        |   |                                                      |   |                        |
| 10.33  |   | Lease, effective as of March 1, 2006, by and between  Americas’ Gateway Business Center, Inc., and National Auto Center, Inc.,  d/b/a CellStar Latin America.          |   | Form 10-K/A for the fiscal year ended November 30,  2005. |   | March 30, 2006              |

 

49

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| 10.34  |   | Master Distribution Agreement, made as of November  20, 2006, by and between Motorola, Inc. and CellStar, Ltd.**                                                               |   | Current Report on Form 8-K. |   | December 20, 2006 |
|--------|--------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|-----------------------------|--------|-------------------|
|   |   |                                                                                                                                                                           |   |                        |   |              |
| 10.35  |   | Regional Amendment for the Sale of Products Between  Motorola and CellStar in North America, made as of November 20, 2006, by and  between Motorola, Inc. and CellStar, Ltd.** |   | Current Report on Form 8-K. |   | December 20, 2006 |
|   |   |                                                                                                                                                                           |   |                        |   |              |
| 21.1   |   | Subsidiaries of the Company.                                                                                                                                                   |   |                        |   | Filed herewith.   |
|   |   |                                                                                                                                                                           |   |                        |   |              |
| 23.1   |   | Consent of Grant Thornton LLP.                                                                                                                                                 |   |                        |   | Filed herewith.   |
|   |   |                                                                                                                                                                           |   |                        |   |              |
| 31.1   |   | Certification of the Chief Executive  Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.                                                                  |   | Filed herewith.        |
|   |   |                                                                                                                                                                           |   |                        |
| 31.2   |   | Certification of the Chief Financial Officer  pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.                                                                       |   | Filed herewith.        |
|   |   |                                                                                                                                                                           |   |                        |
| 31.3   |   | Certification of the Chief Financial Officer  pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.                                                                       |   | Filed herewith.        |
|   |   |                                                                                                                                                                           |   |                        |
| 32.1   |   | Certification of the Chief Executive Officer  pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the  Sarbanes-Oxley Act of 2002.                       |   | Filed herewith.        |
|   |   |                                                                                                                                                                           |   |                        |
| 32.2   |   | Certification of the Chief Financial Officer  pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the  Sarbanes-Oxley Act of 2002.                       |   | Filed herewith.        |
|   |   |                                                                                                                                                                           |   |                        |
| 32.3   |   | Certification of the Chief Financial Officer  pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the  Sarbanes-Oxley Act of 2002.                       |   | Filed herewith.        |

----

*                    Theexhibit is a management contract or compensatory plan or agreement.

**             Certainprovisions of this exhibit are subject to a request for confidential treatmentfiled with the Securities and Exchange Commission. 

 

 

50

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**SIGNATURES**

Pursuant to the requirements of Section 13 or15(d) of the Securities Exchange Act of 1934, as amended, the registrant hasduly caused this report to be signed on its behalf by the undersigned,thereunto duly authorized.
|        |   |   |   | **CELLSTAR CORPORATION** |                                           |
|--------|--------|--------|--------|--------------------------|------------------------------------------------|
|   |   |   |   |                     |                                           |   |
|        |   |   |   | By:                      | /s/ ROBERT A.  KAISER                          |   |
|   |   |   |   |                     | **Robert  A. Kaiser  Chief Executive Officer** |   |
|   |   |   |   |                     |                                           |   |
|   |   |   |   |                     | **Date:  February 12, 2007**                   |   |

 

Pursuant to the requirements of the SecuritiesExchange Act of 1934, as amended, this report has been signed below by thefollowing persons on behalf of the registrant and in the capacities and on thedates indicated.
| By     | /s/ ROBERT  A. KAISER                                                                                                                  |   | Date: February 12, 2007 |   |
|--------|---------------------------------------------------------------------------------------------------------------------------------------------|--------|------------------------------|--------|
|   | **Robert  A. Kaiser  Chairman of the Board and Chief  Executive Officer**                                                                   |   |                         |   |
|   |                                                                                                                                        |   |                         |   |
| By     | /s/ MICHAEL  J. FARRELL                                                                                                                |   | Date: February 12, 2007 |   |
|   | **Michael  J. Farrell  Executive Vice President of Finance,  Treasurer  And Chief Administrative Officer  (a Principal Financial Officer)** |   |                         |   |
|   |                                                                                                                                        |   |                         |   |
| By     | /s/ RAYMOND  L. DURHAM                                                                                                                 |   | Date: February 12, 2007 |   |
|   | **Raymond  L. Durham  Senior Vice President and Chief  Financial Officer  (a Principal Financial Officer)**                                 |   |                         |   |
|   |                                                                                                                                        |   |                         |   |
| By     | /s/ JUAN  MARTINEZ, JR                                                                                                                 |   | Date: February 12, 2007 |   |
|   | **Juan  Martinez, Jr.  Vice President, Corporate Controller  (Principal Accounting Officer)**                                               |   |                         |   |
|   |                                                                                                                                        |   |                         |   |
| By     | /s/ J. L.  JACKSON                                                                                                                     |   | Date: February 12, 2007 |   |
|   | **J.  L. Jackson  Director**                                                                                                                |   |                         |   |
|   |                                                                                                                                        |   |                         |   |
| By     | /s/ DALE V.  KESLER                                                                                                                    |   | Date: February 12, 2007 |   |
|   | **Dale  V. Kesler  Director**                                                                                                               |   |                         |   |
|   |                                                                                                                                        |   |                         |   |
| By     | /s/ JERE W.  THOMPSON                                                                                                                  |   | Date: February 12, 2007 |   |
|   | **Jere  W. Thompson  Director**                                                                                                             |   |                         |   |
|   |                                                                                                                                        |   |                         |   |
| By     | /s/ DA  HSUAN FENG                                                                                                                     |   | Date: February 12, 2007 |   |
|   | **Da  Hsuan Feng  Director**                                                                                                                |   |                         |   |

 

51

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CELLSTAR CORPORATION AND SUBSIDIARIES

**Index to Consolidated FinancialStatements**
| Report of Independent  Registered Public Accounting Firm                                                                                         |   | F-2    |
|--------------------------------------------------------------------------------------------------------------------------------------------------|--------|--------|
|                                                                                                                                             |   |   |
| Consolidated  Balance Sheets as of November 30, 2006 and 2005                                                                               |   | F-3    |
|                                                                                                                                             |   |   |
| Consolidated Statements of Operations for the years  ended November 30, 2006, 2005 and 2004                                                 |   | F-4    |
|                                                                                                                                             |   |   |
| Consolidated Statements of Stockholders’ Equity and  Comprehensive Income (Loss) for the years ended November 30, 2006, 2005  and 2004 |   | F-5    |
|                                                                                                                                             |   |   |
| Consolidated Statements of Cash Flows for the years  ended November 30, 2006, 2005 and 2004                                                 |   | F-6    |
|                                                                                                                                             |   |   |
| Notes to Consolidated Financial Statements                                                                                                       |   | F-7    |

 

 

F-1

----

**Report ofIndependent Registered Public Accounting Firm**

Board ofDirectors and

Shareholders of CellStarCorporation

We have audited theaccompanying consolidated balance sheets of CellStar Corporation (a DelawareCorporation) and subsidiaries as of November 30, 2006 and 2005, and the relatedconsolidated statements of operations, cash flows and stockholders’ equity foreach of the three years in the period ended November 30, 2006.  These financial statements are theresponsibility of the Company’s management. Our responsibility is to express anopinion on these consolidated financial statements based on our audits.

We conducted our auditsin accordance with the standards of the Public Company Accounting OversightBoard (United States). Those standards require that we plan and perform theaudit to obtain reasonable assurance about whether the financial statements arefree of material misstatement. Our audits also included examining, on a testbasis, evidence supporting the amounts and disclosures in the financialstatements, assessing the accounting principles used and significant estimatesmade by management, and evaluating the overall financial statementpresentation. We believe that our audits provide a reasonable basis for ouropinion.

In our opinion, the consolidatedfinancial statements referred to above present fairly, in all materialrespects, the consolidated financial position of CellStar Corporation andsubsidiaries as of November 30, 2006 and 2005, and the results of theirconsolidated operations and their consolidated cash flows for each of the threeyears in the period ended November 30, 2006, in conformity with accountingprinciples generally accepted in the United States of America.

As discussed in Note 1 tothe consolidated financial statements, effective December 1, 2005 the Companyadopted the provisions of Statement of Financial Accounting Standards No. 123(revised 2004), “Share-Based Payments.” Also as discussed in Note 1 to the consolidated financial statements,the Company recorded a cumulative effect adjustment as of December 1, 2005, inconnection with the adoption of SEC Staff Accounting Bulletin No. 108, “Consideringthe Effects of Prior Year Misstatements when Quantifying Misstatements inCurrent Year Financial Statements.”

We have also audited, inaccordance with the standards of the Public Company Accounting Oversight Board(United States), the effectiveness of CellStar Corporation and subsidiaries’internal control over financial reporting as of November 30, 2006, based oncriteria established in *Internal Control —Integrated Framework* issued by the Committee of SponsoringOrganizations of the Treadway Commission, and our report dated February 12,2007, expressed an unqualified opinion on both management’s assessment ofCellStar Corporation’s internal control over financial reporting and on theeffectiveness of CellStar Corporation’s internal control over financialreporting.

/s/ GRANT THORNTON LLP

 

Dallas, Texas

February 12, 2007

 

F-2

----

**CELLSTAR CORPORATION AND SUBSIDIARIES**

**CONSOLIDATEDBALANCE SHEETSNovember 30, 2006 and 2005(In thousands, except share and per share data)**
| ** **                                                                                                                           | ** ** | **2006** | ** ** | **2005** | ** ** |
|--------------------------------------------------------------------------------------------------------------------------------------|------------|----------|------------|----------|------------|
| ASSETS                                                                                                                               |       |     |       |     |       |
| Current assets:                                                                                                                      |       |     |       |     |       |
| Cash and cash  equivalents                                                                                                           |       | $        | 28,632     |     | 10,744     |   |
| Accounts receivable  (less allowance for doubtful accounts of $1,159 and $38,313, respectively)                                      |       | 114,335  |       | 98,356   |       |
| Inventories                                                                                                                          |       | 68,830   |       | 81,547   |       |
| Deferred income taxes                                                                                                                |       | 917      |       | 792      |       |
| Prepaid expenses and  other current assets                                                                                           |       | 5,847    |       | 1,834    |       |
| Assets held for sale—Building                                                                                                   |       | —   |       | 1,516    |       |
| Total current assets                                                                                                                 |       | 218,561  |       | 194,789  |       |
|                                                                                                                                 |       |     |       |     |       |
| Property and equipment,  net                                                                                                         |       | 2,510    |       | 3,689    |       |
| Deferred income taxes                                                                                                                |       | 6,655    |       | 6,655    |       |
| Goodwill                                                                                                                             |       | —   |       | 3,392    |       |
| Other assets                                                                                                                         |       | 8,254    |       | 5,334    |       |
|                                                                                                                                 |       | $        | 235,980    |     | 213,859    |   |
|                                                                                                                                 |       |     |       |     |       |
| LIABILITIES AND  STOCKHOLDERS’ EQUITY                                                                                           |       |     |       |     |       |
| Current liabilities:                                                                                                                 |       |     |       |     |       |
| Notes payable                                                                                                                        |       | $        | 33,469     |     | 30,462     |   |
| Current portion—Term  loan                                                                                                      |       | 1,000    |       | —   |       |
| Accounts payable                                                                                                                     |       | 158,365  |       | 146,292  |       |
| Deferred revenue                                                                                                                     |       | 824      |       | 416      |       |
| Accrued expenses                                                                                                                     |       | 11,747   |       | 13,609   |       |
| Income taxes payable                                                                                                                 |       | 716      |       | —   |       |
| Minority interest                                                                                                                    |       | 2,014    |       | —   |       |
| Total current  liabilities                                                                                                           |       | 208,135  |       | 190,779  |       |
|                                                                                                                                 |       |     |       |     |       |
| 12% Senior subordinated  notes                                                                                                       |       | 1,915    |       | 12,374   |       |
| Term loan                                                                                                                            |       | 9,160    |       | —   |       |
| Other long-term  liabilities                                                                                                         |       | —   |       | 615      |       |
| Total liabilities                                                                                                                    |       | 219,210  |       | 203,768  |       |
|                                                                                                                                 |       |     |       |     |       |
| Stockholders’ equity:                                                                                                           |       |     |       |     |       |
| Preferred stock, $.01  par value, 5,000,000 shares authorized; none issued                                                           |       | —   |       | —   |       |
| Common stock, $.01 par  value, 200,000,000 shares authorized; 21,158,740 and 20,827,529 shares issued  and outstanding, respectively |       | 212      |       | 208      |       |
| Additional paid-in  capital                                                                                                          |       | 124,346  |       | 124,204  |       |
| Unearned compensation                                                                                                                |       | —   |       | (650     | )          |
| Accumulated other  comprehensive loss—foreign currency translation adjustments                                                  |       | (8,603   | )          | (7,673   | )          |
| Retained deficit                                                                                                                     |       | (99,091  | )          | (105,998 | )          |
|                                                                                                                                 |       | 16,864   |       | 10,091   |       |
| Less: Treasury stock  (29,389 shares at cost at November 30, 2006)                                                                   |       | (94      | )          | —   |       |
|                                                                                                                                 |       | 16,770   |       | 10,091   |       |
|                                                                                                                                 |       |     |       |     |       |
|                                                                                                                                 |       | $        | 235,980    |     | 213,859    |   |

 

See accompanying notes to consolidated financialstatements.

 

F-3

----

**CELLSTAR CORPORATION AND SUBSIDIARIES**

**CONSOLIDATEDSTATEMENTS OF OPERATIONSYears ended November 30, 2006, 2005 and 2004(In thousands, except per share data)**
| ** **                                                    | ** ** | **2006** | ** ** | **2005** | ** ** | **2004** | ** ** |
|---------------------------------------------------------------|------------|----------|------------|----------|------------|----------|------------|
|                                                          |       |     |       |     |       |     |       |
| Revenues                                                      |       | $        | 943,140    |     | 987,673    |     | 821,481    |   |
| Cost of sales                                                 |       | 877,754  |       | 937,331  |       | 772,884  |       |
| Gross profit                                                  |       | 65,386   |       | 50,342   |       | 48,597   |       |
|                                                          |       |     |       |     |       |     |       |
| Selling, general and  administrative expenses                 |       | 50,485   |       | 51,246   |       | 58,595   |       |
| Operating income (loss)                                       |       | 14,901   |       | (904     | )          | (9,998   | )          |
|                                                          |       |     |       |     |       |     |       |
| Other income (expense):                                       |       |     |       |     |       |     |       |
| Interest expense                                              |       | (3,916   | )          | (3,794   | )          | (3,441   | )          |
| Loss on sale of  accounts receivable                          |       | (2,578   | )          | (2,413   | )          | (376     | )          |
| Gain on retirement of  12% Senior subordinated notes          |       | 566      |       | —   |       | —   |       |
| Gain on sale of  building                                     |       | 240      |       | —   |       | —   |       |
| Minority interest                                             |       | (2,390   | )          | —   |       | —   |       |
| Other, net                                                    |       | 214      |       | 684      |       | 17       |       |
| Total other income  (expense)                                 |       | (7,864   | )          | (5,523   | )          | (3,800   | )          |
|                                                          |       |     |       |     |       |     |       |
| Income (loss) from  continuing operations before income taxes |       | 7,037    |       | (6,427   | )          | (13,798  | )          |
|                                                          |       |     |       |     |       |     |       |
| Provision for income  taxes                                   |       | 2,786    |       | 845      |       | 23,181   |       |
|                                                          |       |     |       |     |       |     |       |
| Income (loss) from  continuing operations                     |       | 4,251    |       | (7,272   | )          | (36,979  | )          |
|                                                          |       |     |       |     |       |     |       |
| Discontinued operations                                       |       | 585      |       | (17,311  | )          | (81,138  | )          |
|                                                          |       |     |       |     |       |     |       |
| Net income (loss)                                             |       | $        | 4,836      |     | (24,583    | )        | (118,117   | ) |
|                                                          |       |     |       |     |       |     |       |
| Net income (loss) per  share:                                 |       |     |       |     |       |     |       |
|                                                          |       |     |       |     |       |     |       |
| Basic:                                                        |       |     |       |     |       |     |       |
|                                                          |       |     |       |     |       |     |       |
| Income (loss) from  continuing operations                     |       | $        | 0.21       |     | (0.35      | )        | (1.82      | ) |
| Discontinued operations                                       |       | 0.03     |       | (0.85    | )          | (3.98    | )          |
|                                                          |       |     |       |     |       |     |       |
| Net income (loss) per  share                                  |       | $        | 0.24       |     | (1.20      | )        | (5.80      | ) |
|                                                          |       |     |       |     |       |     |       |
| Diluted:                                                      |       |     |       |     |       |     |       |
|                                                          |       |     |       |     |       |     |       |
| Income (loss) from  continuing operations                     |       | $        | 0.20       |     | (0.35      | )        | (1.82      | ) |
| Discontinued operations                                       |       | 0.03     |       | (0.85    | )          | (3.98    | )          |
|                                                          |       |     |       |     |       |     |       |
| Net income (loss) per  share                                  |       | $        | 0.23       |     | (1.20      | )        | (5.80      | ) |
|                                                          |       |     |       |     |       |     |       |
| Weighted average number  of shares:                           |       |     |       |     |       |     |       |
|                                                          |       |     |       |     |       |     |       |
| Basic                                                         |       | 20,415   |       | 20,463   |       | 20,363   |       |
|                                                          |       |     |       |     |       |     |       |
| Diluted                                                       |       | 21,110   |       | 20,463   |       | 20,363   |       |

 

See accompanying notes to consolidated financialstatements.

 

F-4

----

##### **CELLSTAR CORPORATION AND SUBSIDIARIES**

**CONSOLIDATEDSTATEMENTS OF STOCKHOLDERS’ EQUITY ANDCOMPREHENSIVE INCOME (LOSS)Years ended November 30, 2006, 2005 and 2004(In thousands)**
| ** **                                                                   | ** ** | **Common Stock** | ** ** | **Additional** | ** ** | **Unearned**             | ** ** | **Accumulated  other  comprehensive** | ** ** | **Retained** | ** ** | **Treasury** | ** ** | ** ** | ** ** |
|------------------------------------------------------------------------------|------------|-----------------------|------------|----------------|------------|--------------------------|------------|---------------------------------------|------------|--------------|------------|--------------|------------|------------|------------|
| ** **                                                                   | ** ** | **Shares**            | ** ** | **Amount**     | ** ** | **paid-in capital** | ** ** | **compensation**                      | ** ** | **loss**     | ** ** | **deficit**  | ** ** | **Stock**  | ** ** | **Total** | ** ** |
|                                                                         |       |                  |       |           |       |                     |       |                                  |       |         |       |         |       |       |       |   |   |
| Balance at November 30,  2003                                                |       | 20,356                |       | $              | 204        |                     | 123,407    |                                  | —     |         | (12,540    | )            | 36,702     |       | —     |   | 147,773 |   |
|                                                                         |       |                  |       |           |       |                     |       |                                  |       |         |       |         |       |       |       |   |   |
| Comprehensive  loss:                                                         |       |                  |       |           |       |                     |       |                                  |       |         |       |         |       |       |       |   |   |
| Net  loss                                                                    |       | —                |       | —         |       | —                   |       | —                                |       | —       |       | (118,117     | )          | —     |       | (118,117 | ) |
| Foreign  currency translation adjustment                                     |       | —                |       | —         |       | —                   |       | —                                |       | 1,157        |       | —       |       | —     |       | 1,157 |   |
| Realized  foreign currency translation adjustment                            |       | —                |       | —         |       | —                   |       | —                                |       | 2,978        |       | —       |       | —     |       | 2,978 |   |
| Total  comprehensive loss                                                    |       |                  |       |           |       |                     |       |                                  |       |         |       |         |       |       |       | (113,982 | ) |
| Common stock issued  under stock option plans                                |       | 11                    |       | —         |       | 82                       |       | —                                |       | —       |       | —       |       | —     |       | 82 |   |
|                                                                         |       |                  |       |           |       |                     |       |                                  |       |         |       |         |       |       |       |   |   |
| Balance at November 30,  2004                                                |       | 20,367                |       | 204            |       | 123,489                  |       | —                                |       | (8,405       | )          | (81,415      | )          | —     |       | 33,873 |   |
|                                                                         |       |                  |       |           |       |                     |       |                                  |       |         |       |         |       |       |       |   |   |
| Comprehensive  loss:                                                         |       |                  |       |           |       |                     |       |                                  |       |         |       |         |       |       |       |   |   |
| Net  loss                                                                    |       | —                |       | —         |       | —                   |       | —                                |       | —       |       | (24,583      | )          | —     |       | (24,583 | ) |
| Foreign  currency translation adjustment                                     |       | —                |       | —         |       | —                   |       | —                                |       | 1,036        |       | —       |       | —     |       | 1,036 |   |
| Realized  foreign currency translation adjustment                            |       | —                |       | —         |       | —                   |       | —                                |       | (304         | )          | —       |       | —     |       | (304 | ) |
| Total  comprehensive loss                                                    |       |                  |       |           |       |                     |       |                                  |       |         |       |         |       |       |       | (23,851 | ) |
| Grant of restricted  stock                                                   |       | 460                   |       | 4              |       | 715                      |       | (719                                  | )          | —       |       | —       |       | —     |       | — |   |
| Amortization of  restricted stock                                            |       | —                |       | —         |       | —                   |       | 69                                    |       | —       |       | —       |       | —     |       | 69 |   |
|                                                                         |       |                  |       |           |       |                     |       |                                  |       |         |       |         |       |       |       |   |   |
| Balance at November 30,  2005                                                |       | 20,827                |       | 208            |       | 124,204                  |       | (650                                  | )          | (7,673       | )          | (105,998     | )          | —     |       | 10,091 |   |
|                                                                         |       |                  |       |           |       |                     |       |                                  |       |         |       |         |       |       |       |   |   |
| SAB 108 adoption                                                             |       | —                |       | —         |       | —                   |       | —                                |       | —       |       | 2,071        |       | —     |       | 2,071 |   |
|                                                                         |       |                  |       |           |       |                     |       |                                  |       |         |       |         |       |       |       |   |   |
| Balance at November 30,  2005 after SAB 108 adoption                         |       | 20,827                |       | 208            |       | 124,204                  |       | (650                                  | )          | (7,673       | )          | (103,927     | )          | —     |       | 12,162 |   |
|                                                                         |       |                  |       |           |       |                     |       |                                  |       |         |       |         |       |       |       |   |   |
| Comprehensive  income:                                                       |       |                  |       |           |       |                     |       |                                  |       |         |       |         |       |       |       |   |   |
| Net  income                                                                  |       | —                |       | —         |       | —                   |       | —                                |       | —       |       | 4,836        |       | —     |       | 4,836 |   |
| Foreign  currency translation adjustment                                     |       | —                |       | —         |       | —                   |       | —                                |       | (930         | )          | —       |       | —     |       | (930 | ) |
| Total  comprehensive income                                                  |       |                  |       |           |       |                     |       |                                  |       |         |       |         |       |       |       | 3,906 |   |
| Grant of restricted  stock                                                   |       | 434                   |       | 4              |       | (4                       | )          | —                                |       | —       |       | —       |       | —     |       | — |   |
| Cancellation of  restricted stock                                            |       | (73                   | )          | —         |       | (3                       | )          | —                                |       | —       |       | —       |       | —     |       | (3 | ) |
| Amortization of  restricted stock                                            |       | —                |       | —         |       | 669                      |       | —                                |       | —       |       | —       |       | —     |       | 669 |   |
| Stock option expense                                                         |       | —                |       | —         |       | 130                      |       | —                                |       | —       |       | —       |       | —     |       | 130 |   |
| Reclassification of  unearned compensation expense pursuant to 123R adoption |       | —                |       | —         |       | (650                     | )          | 650                                   |       | —       |       | —       |       | —     |       | — |   |
| Treasury stock                                                               |       | (29                   | )          | —         |       | —                   |       | —                                |       | —       |       | —       |       | (94        | )          | (94 | ) |
|                                                                         |       |                  |       |           |       |                     |       |                                  |       |         |       |         |       |       |       |   |   |
| Balance at November 30, 2006                                                 |       | 21,159                |       | $              | 212        |                     | 124,346    |                                  | —     |         | (8,603     | )            | (99,091    | )          | (94        | ) | 16,770 |   |

 

See accompanying notes to consolidated financialstatements.

 

F-5

----

##### **CELLSTAR CORPORATION AND SUBSIDIARIES**

**CONSOLIDATEDSTATEMENTS OF CASH FLOWSYears ended November 30, 2006, 2005 and 2004(In thousands)**
| ** **                                                                                | ** ** | **2006**   | ** ** | **2005**   | ** ** | **2004** | ** ** |
|-------------------------------------------------------------------------------------------|------------|------------|------------|------------|------------|----------|------------|
|                                                                                      | ** ** | ** ** | ** ** | ** ** |       |     |       |
| Cash flows from  operating activities:                                                    |       |       |       |       |       |     |       |
| Net income  (loss)                                                                        |       | $          | 4,836      |       | (24,583    | )        | (118,117   | ) |
| Adjustments to  reconcile net loss to net cash provided by (used in) operating activities |       |       |       |       |       |     |       |
| Provision for  doubtful accounts                                                          |       | 620        |       | (520       | )          | (426     | )          |
| Provision for  inventory obsolescence                                                     |       | 4,101      |       | 1,877      |       | 9,443    |       |
| Stock based  compensation                                                                 |       | 796        |       | 69         |       | —   |       |
| Depreciation and  amortization                                                            |       | 4,203      |       | 4,189      |       | 4,314    |       |
| Discontinued  operations                                                                  |       | (585       | )          | —     |       | —   |       |
| Minority  interest                                                                        |       | 2,390      |       | —     |       | —   |       |
| Gain on sale of  building                                                                 |       | (240       | )          | —     |       | —   |       |
| Deferred income  taxes                                                                    |       | (125       | )          | —     |       | 14,792   |       |
| Gain on  retirement of 12% Senior subordinated notes                                      |       | (566       | )          |       |       |     |       |
| Loss on  divestiture of Colombia operations                                               |       | —     |       | —     |       | 120      |       |
| Changes in  operating assets and liabilities:                                             |       |       |       |       |       |     |       |
| Accounts  receivable                                                                      |       | (249,015   | )          | (282,415   | )          | (99,206  | )          |
| Inventories                                                                               |       | 8,616      |       | 3,829      |       | (21,176  | )          |
| Prepaid expenses  and other current assets                                                |       | (4,013     | )          | 6,066      |       | 1,988    |       |
| Other assets                                                                              |       | 1,246      |       | (77        | )          | (95      | )          |
| Accounts payable                                                                          |       | 11,209     |       | (16,558    | )          | 12,931   |       |
| Deferred revenue                                                                          |       | 408        |       | —     |       | —   |       |
| Accrued expenses                                                                          |       | (1,314     | )          | (4,345     | )          | (473     | )          |
| Income taxes  payable                                                                     |       | 716        |       | —     |       | (866     | )          |
| Net proceeds  from sale of accounts receivable                                            |       | 231,747    |       | 299,223    |       | 93,121   |       |
| Discontinued  operations                                                                  |       | 585        |       | 60,119     |       | 132,154  |       |
|                                                                                      |       |       |       |       |       |     |       |
| Net cash  provided by operating activities                                                |       | 15,615     |       | 46,874     |       | 28,504   |       |
|                                                                                      |       |       |       |       |       |     |       |
| Cash flows from  investing activities:                                                    |       |       |       |       |       |     |       |
| Purchases of  property and equipment                                                      |       | (959       | )          | (947       | )          | (4,988   | )          |
| Proceeds from  sale of building                                                           |       | 1,742      |       | —     |       | —   |       |
| Proceeds from  sale of Singapore                                                          |       | —     |       | —     |       | 2,500    |       |
| Proceeds from  sale of Greater China                                                      |       | —     |       | 6,000      |       | —   |       |
| Other                                                                                     |       | (369       | )          | (1,100     | )          | —   |       |
| Discontinued  operations                                                                  |       | —     |       | 4,988      |       | (11,159  | )          |
|                                                                                      |       |       |       |       |       |     |       |
| Net cash provided  by (used in) investing activities                                      |       | 414        |       | 8,941      |       | (13,647  | )          |
|                                                                                      |       |       |       |       |       |     |       |
| Cash flows from  financing activities:                                                    |       |       |       |       |       |     |       |
| Borrowings on  notes payable                                                              |       | 626,512    |       | 757,005    |       | 669,156  |       |
| Payments on  notes payable                                                                |       | (623,505   | )          | (762,320   | )          | (652,684 | )          |
| Payments on 12% Senior  Subordinated Notes                                                |       | (10,354    | )          | —     |       | —   |       |
| Borrowings on  Term Loan                                                                  |       | 10,410     |       | —     |       | —   |       |
| Payments on Term  Loan                                                                    |       | (250       | )          | —     |       | —   |       |
| Distribution of  minority interest                                                        |       | (347       | )          | —     |       | —   |       |
| Additions to  deferred loan costs                                                         |       | (513       | )          | (876       | )          | (153     | )          |
| Purchases of  treasury stock                                                              |       | (94        | )          | —     |       | —   |       |
| Net proceeds  from issuance of common stock                                               |       | —     |       | —     |       | 82       |       |
| Discontinued  operations                                                                  |       | —     |       | (52,059    | )          | (31,341  | )          |
|                                                                                      |       |       |       |       |       |     |       |
| Net cash  provided by (used in) financing activities                                      |       | 1,859      |       | (58,250    | )          | (14,940  | )          |
|                                                                                      |       |       |       |       |       |     |       |
| Net increase (decrease)  in cash and cash equivalents                                     |       | 17,888     |       | (2,435     | )          | (83      | )          |
| Cash and cash  equivalents at beginning of period                                         |       | 10,744     |       | 13,179     |       | 13,262   |       |
|                                                                                      |       |       |       |       |       |     |       |
| Cash and cash  equivalents at end of period                                               |       | $          | 28,632     |       | 10,744     |     | 13,179     |   |
|                                                                                      |       |       |       |       |       |     |       |
| Non-Cash Investing and Financing Activity Investment in Joint Venture                     |       | $          | 864        |       | 3,000      |     | —     |   |

 

See accompanying notes to consolidated financialstatements.

 

F-6

----

**CELLSTAR CORPORATION AND SUBSIDIARIES**

**NOTES TOCONSOLIDATED FINANCIAL STATEMENTS**

**(1) Summary of Significant Accounting Policies**

***(a) Basis for Presentation***

CellStar Corporation, including its subsidiaries (the “Company”),is a leading provider of distribution and value-added logistics services to thewireless communications industry, with operations in the North American andLatin American Regions. The Company had operations in the European Region untilOctober 2003, and in the Asia-Pacific Region until November 2005.  The Company provides comprehensive logisticssolutions and facilitates the effective and efficient distribution of handsets,related accessories and other wireless products from leading manufacturers to networkoperators, agents, resellers, dealers and retailers. In some of its markets,the Company provides activation services that generate new subscribers for itswireless carrier customers. All significant intercompany balances andtransactions have been eliminated in consolidation.

The Company has reclassified to discontinuedoperations, for all periods presented, the results and related charges for theAsia-Pacific Region.  To conform to thecurrent year presentation, the Company has reclassified certain immaterialpayroll costs from revenues to selling, general and administrative costs in2005.

 ***(b) Use of Estimates***

The preparation offinancial statements in conformity with U.S. generally accepted accountingprinciples requires management to make estimates and assumptions that affectthe reported amounts of assets and liabilities, disclosure of any contingentassets and liabilities at the financial statement date and reported amounts ofrevenue and expenses during the reporting period. On an on-going basis, theCompany reviews its estimates and assumptions. The Company’s estimates werebased on its historical experience and various other assumptions that theCompany believes to be reasonable under the circumstances. Actual results arelikely to differ from those estimates under different assumptions orconditions.

F-7

----

**CELLSTAR CORPORATION AND SUBSIDIARIES**

**NOTES TO CONSOLIDATED FINANCIALSTATEMENTS—(Continued)**

***(c) Accounts Receivable***

In determining the adequacy of the allowance fordoubtful accounts, management considers a number of factors including the agingof the receivable portfolio, customer payment trends, financial condition ofthe customer, economic conditions in the customer’s country, and industryconditions. Actual results could differ from those estimates.   The Company writes off its fully reservedaccounts receivable when it has exhausted all collection efforts.

The Company has agreements with financing companieswhereby it may sell, without recourse, trade receivables from certain of itscustomers. The annual effective discount rates on the sale agreements are from5.8% to 11.4%. These transactions are accounted for as sales ofreceivables.  The Company does notservice or retain an interest in the receivables.  At November 30, 2006 and 2005, $35.0million and $25.8 million, respectively, of accounts receivable outstanding hadbeen sold and removed from the consolidated balance sheet.

***(d) Inventories***

Inventories are stated at the lower of cost (primarilyon a moving average basis) or market and are comprised of finished goods. Indetermining the adequacy of the reserve for inventory obsolescence, managementconsiders a number of factors including the aging of the inventory, recentsales trends, industry market conditions, and economic conditions. In assessingthe reserve, management also considers price protection credits or otherincentives the Company has received from the vendor. Actual results coulddiffer from those estimates.

Included in inventory is $3.4 million and $4.2 millionat November 30, 2006 and 2005, respectively, for which goods have beenshipped and title has transferred but the criteria for revenue recognition hasnot been met due to rights of return or for goods that were considered bill andhold.

***(e) Property and Equipment***

Property and equipment are recorded at cost.Depreciation of equipment is provided over the estimated useful lives of therespective assets, which range from three to thirty years, on a straight-linebasis. Leasehold improvements are amortized over the shorter of their usefullife or the related lease term. Major renewals are capitalized, whilemaintenance, repairs and minor renewals are expensed as incurred.

F-8

----

**CELLSTAR CORPORATION AND SUBSIDIARIES**

**NOTES TO CONSOLIDATED FINANCIALSTATEMENTS—(Continued)**

***(f) Impairment of Long-Lived Assets***

Long-lived assets are reviewed for impairment wheneverevents or changes in circumstances indicate that the carrying amount of anasset may not be recoverable. Recoverability of assets to be held and used ismeasured by a comparison of the carrying amount of an asset to future net cashflows expected to be generated by the asset. If such assets are considered tobe impaired, the impairment to be recognized is measured as the amount by whichthe carrying amount of the assets exceeds the fair value of the assets. Assetsto be disposed of are reported at the lower of the carrying amount or fairvalue less costs to sell.

***(g) Revenue Recognition***

Revenue is recognized on product sales when deliveryoccurs, the customer takes title and assumes risk of loss, terms are fixed anddeterminable, and collectibility is reasonably assured. The Company does notgenerally grant rights of return. In instances where right of return is grantedat the time of sale, revenue is not recognized until expiration of the right ofreturn. For goods that were considered bill and hold, revenue is recognizedwhen the product is shipped.  Reservesfor returns, price discounts and rebates are estimated using historicalaverages, open return requests, channel inventories, recent product sell-throughactivity and market conditions. Allowances for returns, price discounts andrebates are based upon management’s best judgment and estimates at the time ofpreparing the financial statements.

In accordance with contractual agreements with wirelessservice providers, the Company receives an activation commission for obtainingsubscribers for wireless services in connection with the Company’s retailoperations. The agreements contain various provisions for additionalcommissions (“residual commissions”) based on subscriber usage. The agreementsalso provide for the reduction or elimination of activation commissions ifsubscribers deactivate service within stipulated periods. The Companyrecognizes revenue for activation commissions when the subscriber activatesservice less an allowance for estimated deactivations. The Company recognizesresidual commissions when received. The Company recognizes service fee revenuewhen the service is completed and, if applicable, upon shipment of the relatedproduct, whichever is later. The Company recognizes revenue for resellingairtime from carriers upon its purchase by consumers.

***(h) Vendor Credits and Allowances***

The Company recognizes price protection credits;sell-through credits, advertising allowances and volume discounts in the periodthe agreement was made so long as the terms are supported by a writtenagreement. If not supported by a written agreement, the Company recognizes whenreceived.

Priceprotection credits and other incentives are applied against inventory and costof goods sold, depending on whether the related inventory is on-hand or hasbeen previously sold. Sell-through credits are recorded as a reduction in costof goods sold as the products are sold. Advertising allowances are generallyfor the reimbursement of specific incremental, identifiable costs incurred bythe Company and are recorded as a reduction of the related cost. Allowances inexcess of the specific costs incurred, if any, are recorded as a reduction incost of goods sold or inventory, depending on whether the related inventory ison-hand or has been previously sold.

F-9

----

**CELLSTAR CORPORATION AND SUBSIDIARIES**

**NOTES TO CONSOLIDATED FINANCIALSTATEMENTS—(Continued)**

***(i) Foreign Currency and Derivatives***

Assets and liabilities of the Company’s foreignsubsidiaries have been translated at the rate of exchange at the end of eachperiod. Revenues and expenses have been translated at the weighted average rateof exchange in effect during the respective period. Gains and losses resultingfrom translation are accumulated as other comprehensive loss in stockholders’equity as the functional currency is the local currency in all locations. Netforeign currency transaction gains for the years ended November 30, 2006,2005 and 2004 were $0.1 million, $1.7 million and $0.8 million,respectively. The Company manages the risk of foreign currency devaluation byattempting to increase prices of products sold at or above the anticipated rateof local currency devaluation relative to the U.S. dollar, by indexing certainof its receivables to exchange rates in effect at the time of their payment, bydenominating transactions in US dollars, and by entering into non-deliverableforeign currency forward contracts.

As of November 30, 2006, the Company had forward purchasecontracts relating to USD $6.5 million of its receivables in its Chileoperations, which were denominated in Chilean Pesos.  At November 30, 2006, the change in thefair value of these forward purchase contracts was $22 thousand and wasrecorded in cost of goods sold and accounts payable.  At November 30, 2006, the Company held noother derivative instruments.

***(j) Net Income (Loss) Per Share***

Basic net income (loss) per common share is based onthe weighted average number of common shares outstanding for the relevantperiod. Diluted net income (loss) per common share is based on the weightedaverage number of common shares outstanding plus the dilutive effect ofpotentially issuable common shares pursuant to vesting of restricted stock,stock options, warrants, and convertible instruments.

Outstanding options to purchase 0.5 million, 1.4million and 1.0 million shares of common stock at November 30, 2006, 2005and 2004, respectively, were not included in the computation of dilutedearnings per share because their inclusion would have been anti-dilutive as theexercise price was higher than the average market price.

Restricted stock of 0.5 million shares were notincluded in the computation of diluted earnings per share for 2005 becausetheir inclusion would have been anti-dilutive as the Company had a loss fromcontinuing operations.

The following is a reconciliation of the denominatorof the basic and diluted earnings per share computation (in thousands):
| ** **                                                                             | ** ** | **Year ended November 30,** | ** ** |
|----------------------------------------------------------------------------------------|------------|-----------------------------|------------|
|                                                                                        | ** ** | **2006**                    | ** ** | **2005** | ** ** | **2004** | ** ** |
|                                                                                   |       |                        |       |   |   |   |   |
| Weighted average  number of shares outstanding                                         |       | 20,415                      |       | 20,463 |   | 20,363 |   |
| Effect of  dilutive securities:                                                        |       |                        |       |   |   |   |   |
| Restricted stock                                                                       |       | 695                         |       | — |   | — |   |
|                                                                                   |       |                        |       |   |   |   |   |
| Weighted average number  of shares outstanding including effect of dilutive securities |       | 21,110                      |       | 20,463 |   | 20,363 |   |

 

***(k) Income Taxes***

Income taxes are accounted for under the asset andliability method. Deferred income tax assets and liabilities are recognized forthe future tax consequences attributable to (i) differences between thefinancial statement carrying amounts of existing assets and liabilities andtheir respective tax bases and (ii) operating loss and tax creditcarryforwards. Deferred income tax assets and liabilities are measured usingenacted tax rates expected to apply to taxable income in the years in whichthose temporary differences are expected to be recovered or settled. The effecton deferred income tax assets and liabilities of a change in tax rates isrecognized in income in the period that includes the enactment date. In assessingthe realizability of

F-10

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**CELLSTARCORPORATION AND SUBSIDIARIES**

**NOTES TO CONSOLIDATED FINANCIALSTATEMENTS—(Continued)**

deferredincome tax assets, management considers whether it is more likely than not thatthe deferred income tax assets will be realized. A valuation allowance isprovided when the realization of the deferred tax asset is not likely.

***(l) Stock Based Compensation***

As of November 30, 2006, the Company had stockoption plans covering 1.1 million shares of its common stock. Currently,stock options are only granted pursuant to the CellStar Corporation 2003Long-Term Incentive Plan (the “2003 Plan”). Options under the 2003 Plangenerally expire ten years from the date of grant unless earlier terminated dueto the death, disability, retirement or other termination of service of theoptionee. Options generally have vesting schedules ranging from 100% on thefirst anniversary of the date of grant to 25% per year commencing on thefirst anniversary of the date of grant. From time to time, the Company hasgranted options that contain provisions that accelerate the vesting periods ifcertain events occur. The exercise price is equal to the fair market value ofthe common stock on the date of grant.

The Company’s non-employee directors may also receivegrants under the 2003 Plan. In March 2004, the Company’s 1994 Amended andRestated Director Non-Qualified Stock Option Plan (“Directors’ Option Plan”)expired. The Directors’ Option Plan provided that each non-employee director ofthe Company as of the date the Directors’ Option Plan was adopted and eachperson who thereafter became a non-employee director would automatically begranted an option to purchase 1,500 shares of common stock (the “Initial Option”).The exercise price was equal to the fair market value of the common stock onthe date of grant. Each option granted under the Directors’ Option Plan becameexercisable six months after its date of grant and expires ten years from thedate of grant unless earlier terminated due to the death, disability, retirementor other termination of service of the optionee. Non-employee directors alsoreceived an annual grant of an option to purchase 1,000 shares of Companycommon stock under the Company’s 1993 Long-Term Incentive Plan, whichterminated on December 3, 2003. In connection with restricted stock grantsin November 2005, the Board agreed to discontinue

F-11

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**CELLSTAR CORPORATION AND SUBSIDIARIES**

**NOTES TO CONSOLIDATED FINANCIALSTATEMENTS—(Continued)**

theautomatic grant to outside directors and determined that restricted stockgrants pursuant to the 2003 Plan to outside directors will be handledsimultaneously with grants for employees. The amount of such grants will bedetermined by the Board at the time of grant. In addition, the Board determinedto discontinue the Initial Option.

Most options vest over a four year period and have anexercise price equal to the fair market value of the Company’s common stock asof market close on the date of grant. There were no stock option grants in 2006.  The per share weighted-average fair value ofstock options granted during the years ended November 30, 2005 and 2004,were $3.03 and $5.63, respectively, on the date of grant using theBlack-Scholes option-pricing model with the following weighted-average assumptions:

|                                      | ** ** | **2005** | ** ** | **2004** | ** ** |
|--------------------------------------|------------|----------|------------|----------|------------|
|                                 |       |     |       |     |       |
| Dividend yield                       |       | 0.00     | %          | 0.00     |       |
| Volatility                           |       | 93.00    |       | 86.00    |       |
| Risk-free  interest rate             |       | 3.94     |       | 3.10     |       |
| Expected term of  options (in years) |       | 3.40     |       | 3.40     |       |

 

Stock option activity during the years endedNovember 30, 2006, 2005 and 2004, is as follows:
| ** **                  | ** ** | **2006**                   | ** ** | **2005**                                 | ** ** | **2004**                   | ** ** |
|-----------------------------|------------|----------------------------|------------|------------------------------------------|------------|----------------------------|------------|
| ** **                  | ** ** | **Number of  Shares** | ** ** | **Weighted-  Average  Exercise  Prices** | ** ** | **Number of  Shares** | ** ** | **Weighted-  Average  Exercise  Price** | ** ** | **Number of  Shares** | ** ** | **Weighted-  Average  Exercise  Prices** | ** ** |
|                        |       |                       |       |                                     |       |                       |       |   |   |   |   |   |   |
| Beginning  balance          |       | 666,098                    |       |                                     |       | 1,786,354                  |       |   |   | 1,795,883 |   |   |   |
| Granted                     |       | —                     |       | $                                        | —     |                       | 6,500      |   | $ | 4.60 |   | 143,500 |   | $ | 8.78 |   |
| Exercised                   |       | —                     |       | —                                   |       | —                     |       | — |   | 11,262 |   | 7.29 |   |
| Forfeited                   |       | (199,000                   | )          | 18.44                                    |       | (1,126,756                 | )          | 20.59 |   | (164,291 | ) | 17.95 |   |
| Outstanding, end  of year   |       | 467,098                    |       | 10.72                                    |       | 666,098                    |       | 17.06 |   | 1,786,354 |   | 19.38 |   |
| Exercisable, end  of year   |       | 388,423                    |       | 11.50                                    |       | 440,547                    |       | 21.83 |   | 1,193,844 |   | 26.18 |   |
| Reserved for future  grants |       | 163,069                    |       |                                     |       |                       |       |   |   |   |   |   |   |
|                             |            |                            |            |                                          |            |                            |            |  |  |  |  |  |  |  |  |  |

 

For options outstanding and exercisable as ofNovember 30, 2006, the exercise prices and remaining lives were:  
| **Range of Exercise Prices** | ** ** | **Number  Outstanding** | ** ** | **Average  Remaining Life  (in years)** | ** ** | **Average  Exercise  Prices** | ** ** | **Number  Exercisable** | ** ** | **Average  Exercise  Prices** | ** ** |
|---------------------------------------------|------------|-------------------------|------------|---------------------------------------------------|------------|-------------------------------|------------|-------------------------|------------|-------------------------------|------------|
|                                        |       |                    |       |                                              |       |                          |       |                    |       |                          |       |
| $3.96 - 4.60                                |       | 122,900                 |       | 5.38                                              |       | $                             | 4.47       |                    | 116,400    |                          | $          | 4.49 |   |
| $4.91                                       |       | 3,000                   |       | 8.04                                              |       | $                             | 4.91       |                    | 750        |                          | $          | 4.91 |   |
| $5.45                                       |       | 204,700                 |       | 6.14                                              |       | $                             | 5.45       |                    | 153,525    |                          | $          | 5.45 |   |
| $5.80 - 63.44                               |       | 136,498                 |       | 4.13                                              |       | $                             | 24.36      |                    | 117,748    |                          | $          | 26.36 |   |
|                                        |       |                    |       |                                              |       |                          |       |                    |       |                          |       |
|                                        |       | 467,098                 |       | 5.36                                              |       | $                             | 10.72      |                    | 388,423    |                          | $          | 11.50 |   |

 

Priorto fiscal 2006, the Company accounted for its stock options under therecognition and measurement provisions of APB Opinion No. 25, “Accountingfor Stock Issued to Employees”, and related interpretations. EffectiveDecember 1, 2005, the Company adopted the provisions of SFAS No. 123(Revised 2004), “Share-Based Payments” (SFAS 123(R)), and selected the modifiedprospective method to initially report stock-based compensation amounts in theconsolidated financial statements. The Company is currently using theBlack-Scholes option pricing model to determine the fair value of all optiongrants. The Company did not grant any options during the year ended November30, 2006. The Company expects to issue primarily restricted stock in futureperiods.

F-12

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**CELLSTAR CORPORATION AND SUBSIDIARIES**

**NOTES TO CONSOLIDATED FINANCIALSTATEMENTS—(Continued)**

For theyear ended November 30, 2006, the Company recorded $130 thousand forstock-based compensation expense related to stock option grants made in prioryears. This amount is included in selling, general and administrative expenses.At November 30, 2006, there is $84 thousand of total unrecognized compensationcost related to unvested stock options remaining to be recognized. Of thistotal, $59 thousand will be recognized in fiscal 2007 and $25 thousand will berecognized in 2008.

Inaccordance with the modified prospective transition method, the Company’sfinancial statements for prior periods have not been restated to reflect, anddo not include, compensation costs associated with recognizing stock basedcompensation under the fair value method. There was no stock based compensationexpense related to employee stock options recognized during the years endedNovember 30, 2005 and 2004; however, pro forma stock based compensation expensefor the years ended November 30, 2005 and 2004, is as follows:

|                                                                                                                      | ** ** | **2005** | ** ** | **2004** | ** ** |
|----------------------------------------------------------------------------------------------------------------------|------------|----------|------------|----------|------------|
|                                                                                                                 |       |     |       |     |       |
| Net loss, as  reported                                                                                               |       | $        | (24,583    | )        | (118,117   | ) |
| Deduct: Total  stock-based employee compensation expense determined under the fair value  method for all awards |       | (189     | )          | (578     | )          |
|                                                                                                                 |       |     |       |     |       |
| Pro forma net  loss                                                                                                  |       | $        | (24,772    | )        | (118,695   | ) |
|                                                                                                                 |       |     |       |     |       |
| Net loss per  common share:                                                                                          |       |     |       |     |       |
| Basic and diluted - as reported                                                                                      |       | $        | (1.20      | )        | (5.80      | ) |
| Basic and  diluted - pro forma                                                                                       |       | (1.21    | )          | (5.83    | )          |

 

OnMay 2, 2005, Robert A. Kaiser, the Company’s Chief Executive Officer,received a grant of 142,025 shares of restricted stock in tandem with the samenumber of stock appreciation rights pursuant to the terms and conditions of thePlan and a related award agreement. The shares of restricted stock vest inthirds over a three-year period, beginning on the first anniversary of thegrant date and vesting may accelerate upon the occurrence of events specifiedin the grant agreement. On May 2, 2006, 47,342 shares vested, of which12,521 were withheld by the Company to pay withholding tax. The stockappreciation rights expired on December 31, 2005. The total value of the award,$0.3 million, is being expensed over the service period.

During2005 and 2006, the Company granted shares of restricted stock to executiveofficers, directors and certain employees of the Company pursuant to the 2003Plan. The shares of restricted stock vest in thirds over a three-year period,beginning on the first anniversary of the grant date. The restricted stock willbecome 100% vested if any of the following occur: (i) the participant’sdeath; (ii) the termination of the participant’s service as result ofdisability; (iii) the termination of the participant without cause;(iv) the participant’s voluntary termination after the attainment of age65; or (v) a change in control. The total value of the awards, $2.6million, is being expensed over the service period. The Plan permitswithholding of shares by the Company upon vesting to pay withholding tax.  These withheld shares are considered astreasury stock and are available to be re-issued under the 2003 Plan.  During the year ended November 30, 2006,144,025 shares vested, of which 29,389 shares were withheld by the company topay withholding tax.

Thefollowing table summarizes the restricted stock activity for the years endedNovember 30, 2006 and 2005:

|                               | ** ** | **2006** | ** ** | **2005** | ** ** |
|-------------------------------|------------|----------|------------|----------|------------|
| ** **                    |       |     |       |     |       |
| Balance at beginning of  year |       | 460,025  |       | —   |       |
| Shares granted                |       | 434,300  |       | 460,025  |       |
| Shares vested                 |       | (144,025 | )          | —   |       |
| Shares forfeited              |       | (73,700  | )          | —   |       |
|                          |       |     |       |     |       |
| Balance at end of year        |       | 676,600  |       | 460,025  |       |

 

F-13

----

**CELLSTAR CORPORATION AND SUBSIDIARIES**

**NOTES TO CONSOLIDATED FINANCIALSTATEMENTS—(Continued)**

Thebalance of unearned compensation related to the unearned portion of therestricted stock awards was eliminated against additional paid-in capital uponour adoption of SFAS 123R as of the beginning of fiscal 2006.

For theyears ended November 30, 2006 and 2005, the Company recognized $666 thousandand $69 thousand, respectively, of expense related to the restricted stockgrants which is included in selling, general and administrative expenses. As ofNovember 30, 2006, the total remaining unearned compensation related torestricted stock awards was $1.7 million which will be amortized over theservice periods through September 2009.

**(*m) Advertising Costs***

TheCompany expenses advertising costs as incurred.

***(n) Consolidated Statements of Cash FlowInformation***

Forpurposes of the consolidated statements of cash flows, the Company considersall investments with an original maturity of 90 days or less to be cashequivalents.

Includedin cash at November 30, 2006 and 2005, respectively, is $19.3 million and$7.4 million in foreign bank accounts. The Company paid approximately $5.2million, $4.2 million and $4.2 million of interest for the years endedNovember 30, 2006, 2005 and 2004, respectively. The Company paidapproximately $2.2 million, $0.8 million and $3.1 million of income taxes forthe years ended November 30, 2006, 2005 and 2004, respectively.

AtNovember 30, 2006 and 2005, the Company had included in cash and accountspayable $0.4 million and $5.0 million, respectively, of outstandingchecks that have not yet been presented to the bank.

***(o)Adoption of SAB 108***

OnSeptember 13, 2006, the SEC issued Staff Accounting Bulletin No. 108 (“SAB 108”). SAB 108 expresses the SEC Staff’s views regarding the process of evaluatingmateriality of financial statement misstatements.  SAB 108 addresses thediversity in evaluating materiality of financial statement misstatements andthe potential under current practice used by the Company for the build up ofimproper amounts on the balance sheet.  SAB 108 is effective for theCompany for the year ended November 30, 2006.  As allowed by SAB 108, thecumulative effect of the initial application of SAB 108 has been reported inthe carrying amounts of assets and liabilities as of the beginning of fiscal2006, with the offsetting balance to retained earnings.  Upon adoption,the Company recorded a decrease in accrued expenses of approximately $1.1million for unspecified obligations and in the allowance for doubtful accountsof approximately $1.0 million for excess general reserves and an increase inretained earnings of approximately $2.1 million to correct errors arising priorto 2003 that were considered immaterial under the Company’s previous method ofevaluating materiality.

***(p) AccountingPronouncements Not Yet Adopted***

In July 2006, FASBissued FASB Interpretation No. 48 (FIN 48), “Accounting for Uncertainty inIncome Taxes — an interpretation of FASB Statement No. 109”, whichclarifies the accounting for uncertainty in tax positions. This interpretationrequires that we recognize in our financial statements the impact of a taxposition, if that position is more likely than not of being sustained on audit,based on the technical merits of the position. The provisions of FIN 48 areeffective as of the beginning of our 2008 fiscal year, with the cumulativeeffect of the change in accounting principle recorded as an adjustment toretained earnings. We are currently evaluating the impact of adopting FIN 48 onour financial statements.

In September 2006, theFASB issued FASB Statement No. 157, “Fair Value Measurements”**(“SFAS157”), to provide enhanced guidance when using fair value to measure assets andliabilities. SFAS 157 defines fair value, establishes a framework for measuringfair value in GAAP and expands disclosures about fair value measurements. SFAS157 applies whenever other pronouncements require or permit assets orliabilities to be measured at fair value and, while not requiring new fair valuemeasurements, may change current practices. The Company is currently evaluatingthe impact SFAS 157 will have on its consolidated financial statements. SFAS157 is effective for the Company beginning in fiscal year 2008.

Fromtime to time, new accounting pronouncements are issued by the FASB or otherstandards setting bodies which are adopted by the Company as of the specifiedeffective date. Unless otherwise discussed, management believes the impact ofrecently issued standards which are not yet effective will not have a materialimpact on the Company’s consolidated financial statements upon adoption.

**(2) Subsequent Event - Proposed Transactions**

 On December 18,2006, we entered into a definitive agreement (the “U.S. Sale Agreement”) with awholly owned subsidiary of Brightpoint, Inc., an Indiana corporation (“Brightpoint”),providing for the sale (the “U.S. Sale”) of substantially all of our UnitedStates and Miami-based Latin American operations and for the buyer to assumecertain liabilities related to those operations. Our operations in Mexico andChile and other businesses or obligations of CellStar are excluded from theproposed transaction.

The Boards of Directors of both CellStar andBrightpoint unanimously approved the proposed transaction set forth in the U.S.Sale Agreement. Under the terms of the proposed transaction, the buyer

F-14

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**CELLSTAR CORPORATION AND SUBSIDIARIES**

**NOTES TO CONSOLIDATED FINANCIALSTATEMENTS—(Continued)**

willpay $88 million in cash to CellStar, subject to adjustment based on changes innet assets.  The closing of the proposed transaction is expected to occurby the end of March, but no later than May 31, 2007.

Also on December 18, 2006, we entered into adefinitive agreement (the “Mexico Sale Agreement”) with Soluciones Inalámbricas,S.A. de C.V. (“Wireless Solutions”) and Prestadora de Servicios enAdministración y Recursos Humanos, S.A. de C.V. (“Prestadora”), two affiliatedMexican companies, providing for the sale (the “Mexico Sale”) of all of ourMexico operations. The proposed purchase is a stock acquisition of all of theoutstanding shares of our Mexican subsidiaries, and will include our interestin Comunicación Inalámbrica Inteligente, S.A. de C.V. (“CII”), our jointventure with Wireless Solutions.  Underthe terms of the proposed transaction, CellStar will receive between $20 to $22million in cash, based on the 2007 operating performance of the operations upto the closing date.

Pursuant to the Mexico Sale Agreement, the Mexicobuyers may, upon three days’ notice to CellStar, elect an alternate transactionwhereby CellStar will receive $13.0 million for our 51% interest in CII.  In this event, CellStar would be entitled toits pro rata share of CII profits from January 1, 2007 up to the consummationof the alternate transaction.  CellStarwould retain ownership of the remaining subsidiaries including the primaryoperating subsidiary in Mexico, Celular Express S.A. de C.V. (“CELEX”).  If we choose to liquidate those operations,CII has agreed to assist in disposing of the inventory and collecting theaccounts receivable of the remaining operations.

The Board of Directors of CellStar unanimouslyapproved the proposed transaction set forth in the Mexico Sale Agreement. Theclosing of the Mexico Sale Agreement is expected to occur by the end of March,but no later than May 31, 2007.

The Company filed a preliminary proxy statement withthe SEC on January 23, 2007, which more fully describes the proposedtransactions.  Both of the proposedtransactions are subject to customary closing conditions and the approval ofthe Company’s stockholders and the transactions are not dependent upon eachother.  The Company’s operations in Chileare not part of the proposed transactions, and the Company intends to divestits Chile operations in a yet undetermined transaction.  Also included in the proxy statement is aproposed plan of dissolution, which provides for the complete liquidation anddissolution of CellStar after the completion of the U.S. Sale.  If the plan of dissolution is approved by ourstockholders, we plan to wind up our business and file a certificate ofdissolution no earlier than seven months following the close of the U.S. Sale,and distribute our remaining assets to our stockholders after satisfying all ofour liabilities.

Upon the closing of the U.S. Sale, we will use theproceeds to pay off the Amended Facility and the Term Loan. In the event theMexico Sale closes without the proceeds from the U.S. Sale, we would berequired to obtain acceptable consents from our lenders.

As a result of the MexicoSale Agreement, the Company recorded an impairment of $0.2 million for the yearended November 30, 2006, for intangible assets which is included in selling,general and administrative expenses in the accompanying consolidated statementof operations.  At November 30, 2006, theCompany has $9.0 million of accumulated foreign currency translationadjustments related to Mexico.  As the proposedsale did not meet the criteria to classify the operations as held for saleunder SFAS No. 144, “Accounting for the Impairment or Disposal of Long-LivedAssets”, as of November 30, 2006, the Company will recognize the $9.0 millionas an expense upon stockholder approval and the closing of the transaction.

**(3) Related Party Transactions**

***(a) Transactions with Motorola***

Motorola purchased 0.4 million shares of theCompany’s common stock in July 1995 and is a major supplier of handsets andaccessories to the Company. Total purchases from Motorola approximated $539.7million, $485.8 million and $386.3 million for the years endedNovember 30, 2006, 2005 and 2004, respectively. Included in accountspayable at November 30, 2006 and 2005 was approximately $69.2 million and$42.8 million, respectively, due to Motorola for purchases of inventory.

F-15

----

**CELLSTAR CORPORATION AND SUBSIDIARIES**

**NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)**

***(b) Note Receivable***

On September 2, 2005, the Company sold its PRCand Hong Kong operations to Fine Day Holdings Limited, a company formed by A.S.Horng, the Chairman, Chief Executive Officer and General Manager of CellStarAsia, for a total consideration of $12 million, consisting of $6 million incash paid at closing and a $6 million subordinated promissory note maturingSeptember 1, 2008.  The promissorynote bears interest at 10% with interest payable quarterly.  In connection with the sale, effectiveSeptember 2, 2005, Mr. Horng resigned as an executive officer of theCompany and agreed to terminate his employment agreement.

The Company estimated the present value of thesubordinated promissory note to be $3.0 million at the time of the sale. TheCompany has received the interest payments on the promissory note as scheduled.The Company has reduced the carrying value of the promissory note by theinterest payments and the carrying value of $2.6 million is included in otherassets at November 30, 2006. The Company received the fourth scheduled interestpayment of $150 thousand on December 1, 2006.

***(c) Consulting Agreement***

In July 2001, the Company entered into a ConsultingAgreement with Alan H. Goldfield, former Chairman and Chief Executive Officer,pursuant to which the Company engaged Mr. Goldfield to perform suchservices for the Company as are mutually agreeable to Mr. Goldfield andthe Chief Executive Officer of the Company. The Company agreed to payMr. Goldfield 5% of net earnings from certain new business conducted inthe Company’s Asia-Pacific operations. No payments have been made to datepursuant to the Consulting Agreement. On May 6, 2005, the Company receivednotice from Mr. Goldfield of his intent to terminate the ConsultingAgreement within 30 days pursuant to the terms of the Consulting Agreement. TheConsulting Agreement has now been terminated.

Also inJuly 2001, the Company entered into a Separation Agreement and Release withMr. Goldfield pursuant to which the Company may engage Mr. Goldfieldto provide information or assistance in connection with all matters relating toor arising out of his former employment with the Company or pertaining to thegeneral business operations of the Company. In return for this information andassistance, the Company pays Mr. Goldfield his pre-approved, reasonable,actual, out-of-pocket expenses plus the greater of $1,500 per day or thehighest per day amount then being paid to members of the Board for servicesother than services provided as a member of the Board. No payments were made toMr. Goldfield for services pursuant to this agreement in fiscal 2006, 2005and 2004. Until July 5, 2006, the Company provided Mr. Goldfield with certain life insurance and disabilityinsurance.  The Company must provideMr. Goldfield and his spouse with certain medical insurance throughouttheir lifetime. For the years ended November 30, 2006, 2005, and 2004, theCompany paid premiums on Mr. Goldfield’s behalf in the amounts of $10,000,$65,000 and $96,000, respectively. Such premium payments included amountsrelated to term life insurance and disability insurance for Mr. Goldfield,and medical and dental insurance premiums for Mr. Goldfield and his wife.Mr. Goldfield is required to reimburse the Company for a portion of themedical and dental insurance premiums pursuant to the Separation Agreement andRelease.

**(4) Fair Value of Financial Instruments**

Thecarrying amounts of accounts receivable, accounts payable, notes payable andterm loan as of November 30, 2006 and 2005 approximate fair value due tothe short maturity of these instruments, as well as the variable rates on thenotes payable and term loan. The fair value of the Company’s 12% SeniorSubordinated Notes, $1.9 million and $12.4 million at November 30, 2006 and2005, respectively, is the same as carrying value and is consistent with theamounts for which the notes were retired.

 

F-16

----

**CELLSTAR CORPORATION AND SUBSIDIARIES**

**NOTES TO CONSOLIDATED FINANCIALSTATEMENTS—(Continued)**

**(5) Property and Equipment**

Property and equipment consisted of the following atNovember 30, 2006 and 2005 (in thousands):

|                                                                                        | ** ** | **2006**   | ** ** | **2005**   | ** ** |
|----------------------------------------------------------------------------------------|------------|------------|------------|------------|------------|
|                                                                                   | ** ** | ** ** | ** ** | ** ** | ** ** |
| Land and buildings  (useful life of buildings - 30 years)                              |       | $          | 106        |       | 110        |   |
| Furniture, fixtures and  equipment (useful life - 3 to 5 years)                        |       | 24,697     |       | 26,060     |       |
| Leasehold improvements  (useful life -shorter of term of lease or life of improvement) |       | 2,902      |       | 2,828      |       |
|                                                                                   |       |       |       |       |       |
|                                                                                   |       | 27,705     |       | 28,998     |       |
| Less accumulated  depreciation and amortization                                        |       | (25,195    | )          | (25,309    | )          |
|                                                                                   |       |       |       |       |       |
|                                                                                   |       | $          | 2,510      |       | 3,689      |   |
|                                                                                   |       |       |       |       |       |
| Assets held for sale - building                                                        |       | $          | —     |       | 1,516      |   |

 

In the fourth quarter of 2005, the Company decided tosell its corporate headquarters building. The Company completed the sale of thebuilding in February 2006 for net sale proceeds of $1.7 million.

**(6) Debt**

Debt consisted of the following at November 30,2006 and 2005 (in thousands):

|                                | ** ** | **2006** | ** ** | **2005** | ** ** |
|--------------------------------|------------|----------|------------|----------|------------|
|                           |       |     |       |     |       |
| Revolving Credit  Facility     |       | $        | 33,469     |     | 30,462     |   |
|                           |       |     |       |     |       |
| Term loan                      |       | 10,160   |       | —   |       |
|                           |       |     |       |     |       |
| 12% Senior subordinated  notes |       | 1,915    |       | 12,374   |       |
|                           |       |     |       |     |       |
| Total debt                     |       | $        | 45,544     |     | 42,836     |   |

 

AtNovember 30, 2005, the Company had an $85.0 million facility with a bankthat was to expire in November 2006, or in the event that the Companyrefinanced its 12% Senior Subordinated Notes (the “Senior Notes”), the facilitywas to expire September 2007. On March 31, 2006, the Company entered intoan Amended & Restated Loan and Security Agreement (the “AmendedFacility”) with the bank, which extended the term of the facility untilSeptember 27, 2009. The borrowing rate under the Amended Facility wasreduced from prime plus 0.5% to prime for the prime rate option and LondonInterbank Offered Rate (“LIBOR”) plus 3.5% to LIBOR plus 2.5% for the LIBORoption.  The Amended Facility isconsidered a current liability as the lender has dominion over cash receiptsrelated to the Company’s domestic operations, and the Amended Facility containsan acceleration clause that the lenders could choose to invoke if the Companywere to commit an event of default. Funding under the Amended Facility islimited by a borrowing base test, which is measured weekly on eligible domesticaccounts receivable and inventory. The Amended Facility is secured by a pledgeof 100% of the outstanding stock of all U.S. subsidiaries and 65% of theoutstanding stock of all first tier foreign subsidiaries as defined by theAmended Facility. The Amended Facility is further secured by the Company’sdomestic accounts receivable, inventory, property, plant and equipment and allother domestic real property and intangible assets. The Amended Facilitycontains, among other provisions, covenants relating to the maintenance ofcertain financial ratios, and restrictions on dividend payments, entering intoadditional debt, mergers and acquisitions and disposition of assets.

F-17

----

**CELLSTAR CORPORATION AND SUBSIDIARIES**

**NOTES TO CONSOLIDATED FINANCIALSTATEMENTS—(Continued)**

TheCompany had additional borrowing availability under the Amended Facility of$6.0 million at November 30, 2006.

OnOctober 4, 2006, the Company obtained a waiver from the bank for the Companyexceeding its factoring limit in Mexico.  Without this waiver, the Companywould not have been in compliance with the covenant.

OnOctober 31, 2006, the Company finalized an amendment to its Amended Facility,increasing the amount of receivables the Company’s operations in Chile canfactor from $20.0 million to $40.0 million.

AtNovember 30, 2006, and November 30, 2005, the Company had outstanding $1.9million and $12.4 million, respectively, of Senior Notes due January 2007bearing interest at 12%, payable in cash in arrears semi-annually onFebruary 15 and August 15. The Senior Notes were issued as part of atroubled debt restructuring in 2002, and accordingly the future interestpayments were accrued at the restructuring date. At November 30, 2006, andNovember 30, 2005, the Company had $0.1 million and $2.1 million,respectively, of interest accrued for future interest payments. 

OnAugust 31, 2006, the Company entered into a Term Loan and Security Agreement(the “Term Loan “) with a finance company.   Pursuant to the TermLoan, the finance company agreed to provide the Company with the financing topurchase and/or redeem its Senior Notes.   

OnSeptember 7, 2006, the Company redeemed $10.5 million of Senior Notes at a onepercent discount.  The Company recognized a gain on the transaction forthe quarter ended November 30, 2006 of $0.6 million which also includes thereversal of interest previously accrued. The Company did not recognize asinterest expense the interest payments on the Senior Notes as these wereaccrued as part of the troubled debt restructuring.  As of November 30,2006, the Company had borrowed $10.2 million at an interest rate ranging from12.9% to 14.5% and had additional borrowing availability of $1.9 million underthe Term Loan.  On December 15, 2006, theCompany redeemed, at par, the remaining $1.9 million of Senior Notes usingproceeds from the Term Loan.

Theborrowing rate under the Term Loan is LIBOR plus 7.5%, or a base rate plus anapplicable margin. The Term Loan matures September 27, 2009. The Term Loan willbe amortized to an outstanding balance of $10 million at the rate ofapproximately $1 million per year** **payablein quarterly installments beginning September 30, 2006, with interest-onlypayments thereafter throughout the remainder of the Term Loan. Interestpayments are due on the first day of each month following the firstdistribution of funds.  On September 29,2006, the Company made an installment payment of $250 thousand.

The TermLoan is subordinated to the Amended Facility.  The Term Loan is secured bya pledge of 100% of the outstanding stock of all U.S. subsidiaries and 65% ofthe outstanding stock of all first tier foreign subsidiaries as defined by theTerm Loan. The Term Loan is further secured by the Company’s domestic accountsreceivable, inventory, property, plant and equipment and all other domesticreal property and intangible assets. The Term Loan contains, among otherprovisions, covenants relating to the maintenance of certain financial ratios,and restrictions on dividend payments, entering into additional debt, mergersand acquisitions and disposition of assets.

TheSenior Notes contained covenants that restricted the Company’s ability to incuradditional indebtedness; make investments, loans and advances; declaredividends or certain other distributions; create liens; enter intosale-leaseback transactions; consolidate; merge; sell assets and enter intotransactions with affiliates.

AtNovember 30, 2006 and 2005, the Company had $0.9 million and $1.0 million,respectively, of deferred loan costs, net of accumulated amortization which areincluded in other assets in the accompanying consolidated balance sheets.  The Company amortizes these deferred loancosts over the term of the related loan. Included in interest expense in the accompanying consolidated statementsof operations for the years ended November 30, 2006, 2005 and 2004 is $0.6million, $1.1 million and $0.6 million of amortization of these deferred loancosts.

F-18

----

**CELLSTAR CORPORATION AND SUBSIDIARIES**

**NOTES TO CONSOLIDATED FINANCIALSTATEMENTS—(Continued)**

**(7) Income Taxes**

The Company’s income (loss) from continuing operationsbefore income taxes was comprised of the following for the years endedNovember 30, 2006, 2005 and 2004 (in thousands):

|               | ** ** | **2006** | ** ** | **2005** | ** ** | **2004** | ** ** |
|---------------|------------|----------|------------|----------|------------|----------|------------|
|          |       |     |       |     |       |     |       |
| United States |       | $        | 6,330      |     | (4,261     | )        | (8,989     | ) |
| International |       | 707      |       | (2,166   | )          | (4,809   | )          |
|          |       |     |       |     |       |     |       |
| Total         |       | $        | 7,037      |     | (6,427     | )        | (13,798    | ) |

 

Provision (benefit) for income taxes for the yearsended November 30, 2006, 2005 and 2004 consisted of the following (inthousands):

|                               | ** ** | **Current** | ** ** | **Deferred** | ** ** | **Total** | ** ** |
|-------------------------------|------------|-------------|------------|--------------|------------|-----------|------------|
|                          |       |        |       |         |       |      |       |
| Year ended November 30,  2006 |       |        |       |         |       |      |       |
| United States:                |       |        |       |         |       |      |       |
| Federal                       |       | $           | —     |         | —     |      | —     |   |
| State                         |       | 132         |       | —       |       | 132       |       |
| International                 |       | 2,779       |       | (125         | )          | 2,654     |       |
|                          |       |        |       |         |       |      |       |
| Total                         |       | $           | 2,911      |         | (125       | )         | 2,786      |   |
|                          |       |        |       |         |       |      |       |
|                          |       |        |       |         |       |      |       |
| Year ended November 30,  2005 |       |        |       |         |       |      |       |
| United States:                |       |        |       |         |       |      |       |
| Federal                       |       | $           | —     |         | —     |      | —     |   |
| State                         |       | 167         |       | —       |       | 167       |       |
| International                 |       | 678         |       | —       |       | 678       |       |
|                          |       |        |       |         |       |      |       |
| Total                         |       | $           | 845        |         | —     |      | 845        |   |
|                          |       |        |       |         |       |      |       |
|                          |       |        |       |         |       |      |       |
| Year ended November 30,  2004 |       |        |       |         |       |      |       |
| United States:                |       |        |       |         |       |      |       |
| Federal                       |       | $           | —     |         | 7,490      |      | 7,490      |   |
| State                         |       | 190         |       | —       |       | 190       |       |
| International                 |       | (1,080      | )          | 16,581       |       | 15,501    |       |
|                          |       |        |       |         |       |      |       |
| Total                         |       | $           | (890       | )            | 24,071     |      | 23,181     |   |

 

F-19

----

**CELLSTAR CORPORATION AND SUBSIDIARIES**

**NOTES TO CONSOLIDATED FINANCIALSTATEMENTS—(Continued)**

Provision (benefit) for income taxes differed from theamounts computed by applying the U.S. Federal income tax rate of 35% to incomebefore income taxes as a result of the following for the years endedNovember 30, 2006, 2005 and 2004 (in thousands):

|                                                       | ** ** | **2006** | ** ** | **2005** | ** ** | **2004** | ** ** |
|-------------------------------------------------------|------------|----------|------------|----------|------------|----------|------------|
|                                                  |       |     |       |     |       |     |       |
| Expected tax expense  (benefit)                       |       | $        | 2,463      |     | (2,249     | )        | (4,829     | ) |
|                                                  |       |     |       |     |       |     |       |
| Tax effects  attributable to international operations |       | (755     | )          | (10,400  | )          | (536     | )          |
| State income taxes, net  of federal benefits          |       | 86       |       | 109      |       | 123      |       |
| Minority interest                                     |       | 1,036    |       | —   |       | —   |       |
| Change in valuation  allowance                        |       | (44      | )          | 13,453   |       | 28,500   |       |
| Dispositions                                          |       | —   |       | —   |       | 951      |       |
| Other, net                                            |       | —   |       | (68      | )          | (1,028   | )          |
|                                                  |       |     |       |     |       |     |       |
| Actual tax expense                                    |       | $        | 2,786      |     | 845        |     | 23,181     |   |

 

The tax effect of temporary differences underlyingsignificant portions of deferred income tax assets and liabilities atNovember 30, 2006 and 2005 is presented below (in thousands):

|                                         | ** ** | **2006** | ** ** | **2005** | ** ** |
|-----------------------------------------|------------|----------|------------|----------|------------|
|                                    |       |     |       |     |       |
| Deferred income tax  assets:            |       |     |       |     |       |
| United States:                          |       |     |       |     |       |
| Accounts receivable                     |       | $        | 274        |     | 14,078     |   |
| Inventory adjustments for  tax purposes |       | 1,827    |       | 1,353    |       |
| Net operating loss  carryforwards       |       | 45,757   |       | 34,208   |       |
| Foreign tax credit  carryforwards       |       | 607      |       | 607      |       |
| Capital losses                          |       | 3,119    |       | 3,160    |       |
| Prepaid bond interest                   |       | —   |       | 588      |       |
| Goodwill                                |       | 3,825    |       | 3,825    |       |
| Other, net                              |       | 4,545    |       | 4,211    |       |
| International:                          |       |     |       |     |       |
| Other, net                              |       | 3,632    |       | 1,475    |       |
|                                    |       |     |       |     |       |
|                                    |       | 63,586   |       | 63,505   |       |
| Valuation allowance                     |       | (56,014  | )          | (56,058  | )          |
|                                    |       |     |       |     |       |
|                                    |       | $        | 7,572      |     | 7,447      |   |

 

In assessing the realizability of deferred income taxassets, management considers whether it is more likely than not that thedeferred income tax assets will be realized. At November 30, 2006, theCompany has deferred income tax assets, net of valuation allowances, of $7.6million, a significant portion of which relates to net operating losscarryforwards. The ultimate realization of deferred income tax assets isdependent on the generation of future taxable income during the periods inwhich those temporary differences are deductible. The valuation allowance fordeferred income tax assets as of November 30,

F-20

----

**CELLSTAR CORPORATION AND SUBSIDIARIES**

**NOTES TO CONSOLIDATED FINANCIALSTATEMENTS—(Continued)**

2006and 2005 was $56.0 million and $56.1 million, respectively. Managementconsiders the scheduled reversal of deferred income tax liabilities, projectedfuture taxable income, and tax planning strategies in determining the amount ofthe valuation allowance. Based on the level of historical taxable income andprojections for future taxable income over the periods in which the deferredincome tax assets are deductible, management determines if it is more likelythan not that the Company will realize the benefits of these deductibledifferences. The most significant factor considered in determining therealizability of the deferred tax asset was projected profitability, includingtaxable income generated from tax planning strategies, over the next three tofive years. The Company needs to generate $21.6 million in pre-tax income overthis period to fully utilize the net deferred tax asset.

The amount of the deferred income tax asset consideredrealizable, however, could change in the near term if estimates of futuretaxable income during the relevant carry-forward period change or if the numberof years considered for these projections change. At November 30, 2006,the Company had U.S. Federal net operating loss carryforwards of approximately$131.0 million, which will begin to expire in 2020 and foreign net operatingloss carryforwards of approximately $5.9 million which will begin to expire in2015.

At November 30,2006 and 2005, the Company has provided a valuation allowance against themajority of its net operating losses as realization of the tax benefits is notexpected based on current operations. However, the approval of the U.S. Sale agreement by stockholders wouldhave a significant impact on the deferred income tax asset valuationallowance.  The sale of the U.S. andMiami operations would result in an expected gain in excess of $50 million. TheCompany believes the tax liability for a significant portion of this gain wouldbe offset by the utilization of net operating losses which have been previouslyreserved.

The approval ofthe Mexico Sale Agreement would negatively impact the deferred income taxvaluation allowance by approximately $2.7 million as no future taxable incomewould be generated from the Mexico operations.  In assessing the realizability of the deferred tax assets at November30, 2006 the Company has included the expected income from the Mexicooperations.

As of November 30, 2006 the completion of the U.S. andMexico Sale Agreements was uncertain due to the requirement for stockholderapproval.  Accordingly the amount of thedeferred tax assets at November 30, 2006 expected to be realized is based onthe current operations of the Company without considering the effects of theproposed transactions.

The Company was deemed to have undergone an ownershipchange for purposes of the Internal Revenue Code as a result of its bondexchange in 2002. Accordingly, the Company may have limitations on the yearlyutilization of its U.S. tax carry-forwards in accordance with Section 382of the Internal Revenue Code.

Because many types of transactions are susceptible tovarying interpretations under foreign and domestic income tax laws andregulations, the amounts recorded in the accompanying consolidated financialstatements may be subject to change on final determination by the respectivetaxing authorities. Management believes it has made an adequate tax provision.

F-21

----

**CELLSTAR CORPORATION AND SUBSIDIARIES**

**NOTES TO CONSOLIDATED FINANCIALSTATEMENTS—(Continued)**

**(8) Leases**

The Company leases certain warehouse and officefacilities, equipment and retail stores under operating leases that range fromtwo to five years. Facility and retail store leases generally contain renewaloptions. Rental expense for operating leases was $2.3 million, $2.3 million and$2.6 million for the years ended November 30, 2006, 2005 and 2004,respectively. Future minimum lease payments under operating leases as ofNovember 30, 2006 are as follows (in thousands):

| Year Ending November 30, | ** ** | **Amount** | ** ** |
|------------------------------------|------------|------------|------------|
|                               | ** ** | ** ** | ** ** |
| 2007                               |       | $          | 2,376      |   |
| 2008                               |       | 1,156      |       |
| 2009                               |       | 912        |       |
| 2010                               |       | 738        |       |
| 2011                               |       | 588        |       |
| Thereafter                         |       | —     |       |
|                                    |            |            |            |  |

 

F-22

----

**CELLSTAR CORPORATION AND SUBSIDIARIES**

**NOTES TO CONSOLIDATED FINANCIALSTATEMENTS—(Continued)**

**(9) Joint Venture**

InApril 2005, in order to increase its activation business and further strengthenits relationship with Radio Movil Dipsa S.A. de C.V. (“Telcel”), the Company’ssubsidiary in Mexico, Celular Express S.A. de C.V. (“CELEX”), invested in ajoint venture with Soluciones Inalambricas S.A. de C.V. (“Wireless Solutions”)and its individual partners for $4.1 million. The $4.1 million consisted of$1.1 million in cash paid at closing, the conversion of $2.0 million ofaccounts receivable and a $1.0 million note that was paid in full in August2005 through the conversion of an additional $1.0 million of accountsreceivable. The joint venture, which operates under the name ComunicacionInalambrica Inteligente, S.A. de C.V. (“CII”), provides handset distributionand activation services for Telcel, the largest cellular phone company inMexico. CELEX owns 51% of CII and the remaining 49% is owned by the individualpartners of Wireless Solutions. The financial condition and results ofoperations of CII are consolidated in the Company’s accompanying consolidatedfinancial statements. 

For theyear ended November 30, 2005, a loss of $0.8 million incurred by CII wasnot fully allocated to the minority interest and the Company did not reflectthe deficit for the minority interest because the minority owners are notcontractually obligated to fund losses incurred beyond their equity. Theunrecognized minority interest in the deficit of CII as of November 30,2005, was $0.4 million. As of November 30, 2006, CII had cumulative profits of$4.4 million and the balance of the minority interest was $2.0 million.

Asadditional consideration for its 51% interest in CII, CELEX is committed to payan additional $4.0 million to the individual partners of Wireless Solutions,payable in the form of a cumulative preferred dividend, of the earnings of CIIwhich otherwise would be distributed to CELEX. No earnings shall be distributedto CELEX as long as any portion of the preferred dividend remains unpaid. As ofNovember 30, 2006, $0.4 million of the preferred dividend had been paid tothe individual partners of Wireless Solutions. At November 30, 2006, $2.0million of minority interest was accrued related to the 49% interest held bythe individual partners of Wireless Solutions. The calendar 2006 preferreddividend will be distributed following the expected completion of the annualstatutory accounts for CII in March 2007. If the Mexico Sale is approved by the stockholders, the Mexico SaleAgreement stipulates that no preferred dividends will be paid after therequired calendar 2006 dividend.

TheCompany initially attributed $3.8 million of its initial investment to goodwilland $0.6 million to the customer relationship. The initial purchase priceallocation for CII was based on preliminary information, which was subject toadjustment upon obtaining complete valuation information. During the secondquarter of 2006, the Company completed its valuation. The valuation resulted inthe following identified intangibles (in thousands): 

|                        | ** ** | ** ** | ** ** | **Amortization  Period** | ** ** |
|------------------------|------------|------------|------------|--------------------------|------------|
|                   |       |       |       |                     |       |
| Customer relationship  |       | $          | 3,268      |                     | 7  years   |   |
| Non compete agreements |       | 847        |       | 5  to 6 years            |       |
| Supplier relationship  |       | 918        |       | 7  years                 |       |
|                   |       |       |       |                     |       |
|                   |       | $          | 5,033      |                     |       |   |

 

Basedupon the final valuation, during the quarter ended May 31, 2006, the Companyreclassified the $3.8 million originally classified as goodwill to theidentified intangibles.  In accordancewith SFAS No. 141 “Business Combinations”), the Company recognized as aliability $0.9 million which represents the contingent consideration that wouldresult in recognition of an additional intangible asset, when the contingencyis paid. The identified intangibles are included in other assets in theaccompanying balance sheet at November 30, 2006 and 2005, net of accumulated amortizationof $3.8 million and $4.1 million, respectively.  The Company recognized amortization expenseof $1.5 million and $45 thousand for the years ended November 30, 2006 and2005, respectively, including $0.6 million of amortization expense during thethree months ended May 31, 2006, to reflect the additional amortizationexpense from the acquisition date to the finalization of the purchase priceallocation.

F-23

----

**CELLSTAR CORPORATION AND SUBSIDIARIES**

**NOTES TO CONSOLIDATED FINANCIALSTATEMENTS—(Continued)**

The expected amortization of the intangibles based onthe final allocation is as follows (in thousands):

| Year Ending November 30, | ** ** | **Amount** | ** ** |
|-----------------------------------------|------------|------------|------------|
|                                    |       |       |       |
| 2007                                    |       | $          | 802        |   |
| 2008                                    |       | 802        |       |
| 2009                                    |       | 785        |       |
| 2010                                    |       | 688        |       |
| 2011                                    |       | 627        |       |
| Thereafter                              |       | 61         |       |
|                                         |            |            |            |  |

 

 **(10) Divestiture of Colombia Operations**

In 2003 the Company shifted the majority of itsbusiness with its major carrier customer in Colombia to the Company’s Miamiexport operations. As a result, the Company recorded a $4.0 million net assetimpairment charge. The impairment charge included $3.8 million for accumulatedforeign currency translation adjustments and $0.2 million for property andequipment. On May 26, 2004, the Company completed the divestiture of itsColombia operations to a group that included local management and recorded apre-tax loss of $0.1 million.

F-24

----

**CELLSTAR CORPORATION AND SUBSIDIARIES**

**NOTES TO CONSOLIDATED FINANCIALSTATEMENTS—(Continued)**

Forpurposes of the statement of operations, the Company has not classified theColombia operations as discontinued because of the continuing sale of productsto carrier customers in Colombia from the Company’s Miami export operations andthe export of products to other customers in South America.

Following is a summary of the operations in Colombiafor the year ended November 30, 2004 (in thousands):

|                                               | ** ** | **2004** | ** ** |
|-----------------------------------------------|------------|----------|------------|
|                                          |       |     |       |
| Revenues                                      |       | $        | 16,294     |   |
| Cost of sales                                 |       | 14,982   |       |
|                                          |       |     |       |
| Gross profit                                  |       | 1,312    |       |
| Selling, general and  administrative expenses |       | 1,178    |       |
|                                          |       |     |       |
| Operating income                              |       | $        | 134        |   |

 

**(11) Discontinued Operations**

For the year ended November 30, 2004, the Companyincurred an operating loss of $79.1 million in the Asia-Pacific Region,primarily due to losses in the PRC. This operating loss was primarily a resultof changes in the market conditions in the PRC including an oversupply ofhandsets and significant price reductions, the inability of the Company toobtain the desired product and terms from its traditional primary suppliers,low market acceptance and quality issues with product manufactured bynon-traditional suppliers, and deteriorating relationships with its localdistributors (the “Small Bees”). In 2005, the Company decided to exit theAsia-Pacific Region and on September 2, 2005, the Company sold its PRC andHong Kong operations to Fine Day Holdings Limited, a company formed byMr. A.S. Horng, who was the Chairman and Chief Executive Officer ofCellStar (Asia) Corporation Limited and effectively the head of the Company’sAsia-Pacific Region, for total consideration of $12 million, consisting of $6million in cash paid at closing and a $6 million subordinated promissory notematuring September 1, 2008. The promissory note bears interest at 10% withinterest payable quarterly.  Inconnection with the sale, effective September 2, 2005, Mr. Horngresigned as an executive officer of the Company and agreed to terminate hisemployment agreement. At the time of the sale, the Company had guaranteedcertain payables of these operations. Following the sale, the Company gavenotice to the vendors to cancel the guarantees. The guarantees all terminatedby December 21, 2005. In approving the sale to Fine Day Holdings Limited,the Board of Directors had meetings with Company management and variousadvisors regarding the transaction and obtained a fairness opinion. The Companyestimated the present value of the subordinated promissory note to be $3.0million at the time of the sale.  Theremaining $3.0 million will be recognized upon payment. The Company recognizeda pre-tax loss of $1.4 million on the sale primarily related to expensesassociated with the sale.

The Company hasreceived the interest payments on the promissory note as scheduled. The Companyhas reduced the carrying value of the promissory note by the interest paymentsand the carrying value of $2.6 million is included in other assets at November30, 2006. The Company received the fourth scheduled interest payment of $150thousand on December 1, 2006.

On August 25, 2005, the Company entered into anagreement with Mrs. L.C. Lin, a Taiwanese individual and former employeeof the Taiwan operations, to sell its Taiwan operations for nominalconsideration. The Taiwan operations had not been profitable since the fourthquarter of 2002. As a result, the Company recorded a $1.8 million net asset impairmentcharge in the third quarter ended August 31, 2005. The impairment chargeincluded $1.6 million for property and equipment and $0.2 million for otherassets. On November 1, 2005, the Company completed the sale and recognizedno gain or loss on the transaction.

F-25

----

**CELLSTAR CORPORATION AND SUBSIDIARIES**

**NOTES TO CONSOLIDATED FINANCIALSTATEMENTS—(Continued)**

In the third quarter of 2004, the Company decided toexit its operations in The Philippines. These operations had not beenprofitable since the first quarter of 2002 and did not present significantgrowth opportunities for the Company. The Philippines operations were closed in2005.

In 2004, the Company decided to exit its operations inSingapore. These operations had not been profitable since 2002 and did notpresent significant growth opportunities for the Company. On November 12,2004, the Company completed the sale of its Singapore operations to a localgroup that included the former general manager of the operations. The purchaseprice was $2.5 million in cash and the Company recorded a pre-tax loss of $0.2million.

The Company has reclassified to discontinuedoperations, for all periods presented, the results and related charges for theAsia-Pacific Region.  The results ofdiscontinued operations for the Asia-Pacific Region, for the years endedNovember 30, 2006, 2005 and 2004 are as follows (in thousands):
| ** **                                    | ** ** | **2006** | ** ** | **2005** | ** ** | **2004** | ** ** |
|-----------------------------------------------|------------|----------|------------|----------|------------|----------|------------|
|                                          |       |     |       |     |       |     |       |
| Revenues                                      |       | $        | —     |     | 154,027    |     | 508,266    |   |
| Cost of sales                                 |       | (708     | )          | 154,841  |       | 551,623  |       |
| Gross profit                                  |       | 708      |       | (814     | )          | (43,357  | )          |
|                                          |       |     |       |     |       |     |       |
| Selling, general and  administrative expenses |       | 99       |       | 14,236   |       | 31,026   |       |
| Impairment of assets                          |       | —   |       | —   |       | 4,766    |       |
|                                          |       |     |       |     |       |     |       |
| Operating income (loss)                       |       | 609      |       | (15,050  | )          | (79,149  | )          |
|                                          |       |     |       |     |       |     |       |
| Other income (expense):                       |       |     |       |     |       |     |       |
| Interest expense                              |       | —   |       | (874     | )          | (2,687   | )          |
| Gain (loss) on sale of  assets                |       | —   |       | (1,369   | )          | (188     | )          |
| Other, net                                    |       | —   |       | (18      | )          | 462      |       |
|                                          |       |     |       |     |       |     |       |
| Total other income  (expense)                 |       | —   |       | (2,261   | )          | (2,413   | )          |
|                                          |       |     |       |     |       |     |       |
| Income (loss) before  income taxes            |       | 609      |       | (17,311  | )          | (81,562  | )          |
|                                          |       |     |       |     |       |     |       |
| Provision (benefit) for  income taxes         |       | 24       |       | —   |       | (424     | )          |
|                                          |       |     |       |     |       |     |       |
| Discontinued operations                       |       | $        | 585        |     | (17,311    | )        | (81,138    | ) |

 

|                         | ** ** | **November 30,  2004** | ** ** |
|-------------------------|------------|-----------------------------|------------|
|                    |       |                        |       |
| Current assets          |       | $                           | 92,522     |   |
| Non-current assets      |       | 6,421                       |       |
| Total assets            |       | 98,943                      |       |
|                    |       |                        |       |
| Current liabilities     |       | 76,811                      |       |
| Non-current liabilities |       | 84                          |       |
| Total  liabilities      |       | 76,895                      |       |
|                    |       |                        |       |
| Net                     |       | $                           | 22,048     |   |

 

 

F-26

----

**CELLSTAR CORPORATION AND SUBSIDIARIES**

**NOTES TO CONSOLIDATED FINANCIALSTATEMENTS—(Continued)**

**(12) Valuation and Qualifying Accounts**

Following is a summary of valuation and qualifyingaccounts related to continuing operations for the years ended November 30,2006, 2005 and 2004 (in thousands):
| ** **                          | ** ** | **Balance at  beginning of  period** | ** ** | **Charged to  costs and  expenses** | ** ** | **Charged to  activation  income** | ** ** | **Deductions,  net of  recoveries** | ** ** | **Balance at  end of  period** | ** ** |
|-------------------------------------|------------|------------------------------------------------|------------|-----------------------------------------------|------------|-----------------------------------------|------------|------------------------------------------|------------|------------------------------------------|------------|
|                                |       |                                           |       |                                          |       |                                    |       |                                     |       |                                     |       |
| Allowance for doubtful  accounts    |       |                                           |       |                                          |       |                                    |       |                                     |       |                                     |       |
| November 30, 2006                   |       | $                                              | 38,313     |                                          | 620        |                                    | —     |                                     | (37,774    | )                                        | 1,159      |   |
| November 30, 2005                   |       | 39,481                                         |       | (520                                          | )          | —                                  |       | (648                                     | )          | 38,313                                   |       |
| November 30, 2004                   |       | 44,319                                         |       | (426                                          | )          | —                                  |       | (4,412                                   | )          | 39,481                                   |       |
|                                |       |                                           |       |                                          |       |                                    |       |                                     |       |                                     |       |
| Reserve for inventory  obsolescence |       |                                           |       |                                          |       |                                    |       |                                     |       |                                     |       |
| November 30, 2006                   |       | 3,751                                          |       | 4,101                                         |       | —                                  |       | (1,687                                   | )          | 6,165                                    |       |
| November 30, 2005                   |       | 9,290                                          |       | 1,877                                         |       | —                                  |       | (7,416                                   | )          | 3,751                                    |       |
| November 30, 2004                   |       | 4,140                                          |       | 9,443                                         |       | —                                  |       | (4,293                                   | )          | 9,290                                    |       |
|                                |       |                                           |       |                                          |       |                                    |       |                                     |       |                                     |       |
| Customer rebates                    |       |                                           |       |                                          |       |                                    |       |                                     |       |                                     |       |
| November 30, 2006                   |       | 1,445                                          |       | 9,717                                         |       | —                                  |       | (9,010                                   | )          | 2,152                                    |       |
| November 30, 2005                   |       | 1,246                                          |       | 2,172                                         |       | —                                  |       | (1,973                                   | )          | 1,445                                    |       |
| November 30, 2004                   |       | 880                                            |       | 3,144                                         |       | —                                  |       | (2,778                                   | )          | 1,246                                    |       |
|                                     |            |                                                |            |                                               |            |                                         |            |                                          |            |                                          |            |  |

 

In2006, the Company wrote off fully reserved receivables which were deemeduncollectible.

**(13) Segment and Related Information**

The Company’s continuing operations purchased its productsfrom more than 20 suppliers in fiscal 2006. For the years endedNovember 30, 2006, 2005 and 2004, Motorola accounted for approximately65%, 52% and 50%, respectively,  of theCompany’s product purchases.

The Company operates predominantly within one industry,the sale of wireless telecommunications products. The Company’s managementevaluates operations primarily on income before interest and income taxes inthe following reportable geographic regions: North America, which consists ofthe United States, Latin America, which includes Mexico, Chile and the Company’sMiami, Florida operations (“Miami”). Revenues and operations of Miami areincluded in Latin America since Miami’s product sales are primarily for exportto Latin American countries, either by the Company or through its exportercustomers. The Corporate segment includes income and expenses related to theheadquarters operations.  Allocations toother reportable segments are not significant. Corporate segment assetsprimarily consist of cash, cash equivalents and deferred income tax assets. Theaccounting policies of the reportable segments are the same as those describedin note (1). Intersegment sales and transfers are not significant. Segmentinformation for continuing operations for the years ended November 30,2006, 2005 and 2004 follows (in thousands):

F-27

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**CELLSTAR CORPORATION AND SUBSIDIARIES**

**NOTES TO CONSOLIDATED FINANCIALSTATEMENTS—(Continued)**
| ** **                                                                   | ** ** | **Latin  America** | ** ** | **North  America** | ** ** | **Europe** | ** ** | **Corporate** | ** ** | **Total**  | ** ** |
|------------------------------------------------------------------------------|------------|--------------------|------------|--------------------|------------|------------|------------|---------------|------------|------------|------------|
| November 30,  2006                                                           |       |               |       |               |       |       |       |          |       |       |       |
| Revenue from external customers                                              |       | $                  | 534,592    |               | 408,548    |       | —     |          | —     |       | 943,140    |   |
| Operating income (loss)                                                      |       | 12,627             |       | 15,413             |       | —     |       | (13,139       | )          | 14,901     |       |
| Income (loss) from continuing operations before  interest & income taxes |       | 10,217             |       | 15,416             |       | —     |       | (12,328       | )          | 13,305     |       |
| Total assets                                                                 |       | 146,195            |       | 64,618             |       | —     |       | 25,167        |       | 235,980    |       |
| Depreciation and amortization                                                |       | 2,156              |       | 1,190              |       | —     |       | 857           |       | 4,203      |       |
| Capital expenditures                                                         |       | 624                |       | 296                |       | —     |       | 39            |       | 959        |       |
| ** **                                                                   | ** ** | ** **         | ** ** | ** **         | ** ** | ** ** | ** ** | ** **    | ** ** | ** ** | ** ** |
| November 30,  2005                                                           |       |               |       |               |       |       |       |          |       |       |       |
| Revenue from external customers                                              |       | 525,092            |       | 462,581            |       | —     |       | —        |       | 987,673    |       |
| Operating income (loss)                                                      |       | 8,693              |       | 5,489              |       | —     |       | (15,086       | )          | (904       | )          |
| Income (loss) from continuing operations before  interest & income taxes |       | 8,170              |       | 3,079              |       | —     |       | (12,044       | )          | (795       | )          |
| Total assets                                                                 |       | 116,123            |       | 83,318             |       | 646        |       | 13,772        |       | 213,859    |       |
| Depreciation and amortization                                                |       | 736                |       | 1,849              |       | —     |       | 1,604         |       | 4,189      |       |
| Capital expenditures                                                         |       | 344                |       | 437                |       | —     |       | 166           |       | 947        |       |
| ** **                                                                   | ** ** | ** **         | ** ** | ** **         | ** ** | ** ** | ** ** | ** **    | ** ** | ** ** | ** ** |
| November 30,  2004                                                           |       |               |       |               |       |       |       |          |       |       |       |
| Revenue from external customers                                              |       | 382,074            |       | 439,407            |       | —     |       | —        |       | 821,481    |       |
| Operating income (loss)                                                      |       | 7,575              |       | 1,512              |       | 475        |       | (19,560       | )          | (9,998     | )          |
| Income (loss) from continuing operations before  interest & income taxes |       | 6,661              |       | (2,534             | )          | 475        |       | (14,628       | )          | (10,026    | )          |
| Total assets - Continuing operations                                         |       | 141,684            |       | 87,208             |       | 668        |       | 24,733        |       | 254,293    |       |
| Depreciation and amortization                                                |       | 1,298              |       | 1,675              |       | —     |       | 1,341         |       | 4,314      |       |
| Capital  expenditures                                                        |       | 624                |       | 3,983              |       | —     |       | 381           |       | 4,988      |       |
|                                                                              |            |                    |            |                    |            |            |            |               |            |            |            |  |

 

A reconciliation from the segment information to theincome (loss) before income taxes included in the consolidated statements ofoperations for the years ended November 30, 2006, 2005, and 2004 follows(in thousands):

|                                                                                      | ** ** | **2006** | ** ** | **2005** | ** ** | **2004** | ** ** |
|--------------------------------------------------------------------------------------|------------|----------|------------|----------|------------|----------|------------|
|                                                                                 |       |     |       |     |       |     |       |
| Income (loss)  before interest and income taxes                                      |       | $        | 13,305     |     | (795       | )        | (10,026    | ) |
| Interest expense  per the consolidated statements of operations                      |       | (3,916   | )          | (3,794   | )          | (3,441   | )          |
| Loss on sale of  accounts receivable                                                 |       | (2,578   | )          | (2,413   | )          | (376     | )          |
| Interest income  included in other, net in the consolidated statements of operations |       | 226      |       | 575      |       | 45       |       |
|                                                                                 |       |     |       |     |       |     |       |
| Income (loss) before  income taxes                                                   |       | $        | 7,037      |     | (6,427     | )        | (13,798    | ) |

 

Geographical information for continuing operations forthe years ended November 30, 2006, 2005 and 2004, follows (in thousands):

|                      | ** ** | **2006**     | ** ** | **2005**               | ** ** | **2004**     | ** ** |
|----------------------|------------|--------------|------------|------------------------|------------|--------------|------------|
| ** **           | ** ** | **Revenues** | ** ** | **Long-lived  Assets** | ** ** | **Revenues** | ** ** | **Long-lived  Assets** | ** ** | **Revenues** | ** ** | **Long-lived  Assets** | ** ** |
|                 | ** ** | ** **   | ** ** | ** **             | ** ** | ** **   | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| United States  (1)   |       | $            | 599,592    |                   | 5,149      |         | 734,979    |   | 6,980 |   | 599,329 |   | 5,787 |   |
| Mexico               |       | 290,709      |       | 4,518                  |       | 234,697      |       | 4,829 |   | 179,674 |   | 771 |   |
| Chile                |       | 52,839       |       | 1,097                  |       | 17,997       |       | 606 |   | 26,184 |   | 935 |   |
| All other  countries |       | —       |       | —                 |       | —       |       | — |   | 16,294 |   | — |   |
|                 |       |         |       |                   |       |         |       |   |   |   |   |   |   |
|                 |       | $            | 943,140    |                   | 10,764     |         | 987,673    |   | 12,415 |   | 821,481 |   | 7,493 |   |

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(1)             Forpurposes of the geographical information above, the Company’s Miami operationsare included in the United States. Revenues are attributed to individualcountries based on the location of the originating transaction. 

 

F-28

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**CELLSTAR CORPORATION AND SUBSIDIARIES**

**NOTES TO CONSOLIDATED FINANCIALSTATEMENTS—(Continued)**

Thefollowing table summarizes customer concentration percentages (consolidated andregional) and revenues for the North American and Latin American Regions forthe years ended November 30, 2006, 2005 and 2004 (in millions).
| ** **                         | ** ** | **2006**     | ** ** | **2005**        | ** ** | **2004**       | ** ** |
|------------------------------------|------------|--------------|------------|-----------------|------------|----------------|------------|
| ** **                         | ** ** | **Revenues** | ** ** | **Cons %** | ** ** | **Reg %** | ** ** | **Revenues** | ** ** | **Cons %** | ** ** | **Reg %** | ** ** | **Revenues** | ** ** | **Cons %** | ** ** | **Reg %** | ** ** |
| North American  Region             |       |         |       |            |       |           |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Lock/line                          |       | $            | 50.5       |            | 5.3        |           | 12.4       |   | $ | 115.0 |   | 11.7 |   | 24.9 |   | $ | 93.1 |   | 11.3 |   | 21.2 |   |
| Dobson                             |       | 83.4         |       | 8.8             |       | 20.4           |       | 81.0 |   | 8.2 |   | 17.5 |   | 46.1 |   | 5.6 |   | 10.5 |   |
|                               |       |         |       |            |       |           |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Latin American  Region             |       |         |       |            |       |           |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Telcel and Telcel related entities |       | 221.5        |       | 23.5            |       | 41.4           |       | 174.4 |   | 17.7 |   | 33.2 |   | 129.8 |   | 15.8 |   | 34.0 |   |
| Telefonica                         |       | 112.5        |       | 11.9            |       | 21.0           |       | 186.2 |   | 18.9 |   | 35.5 |   | 42.0 |   | 5.1 |   | 11.0 |   |
|                                    |            |              |            |                 |            |                |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

The following table shows the balance of accountsreceivable at November 30, 2006 (in millions).

 

|                                    | ** ** | **2006** | ** ** | **2005** | ** ** | **2004** | ** ** |
|------------------------------------|------------|----------|------------|----------|------------|----------|------------|
| North American  Region             |       |     |       |     |       |     |       |
| Lock/line                          |       | $        | 1.0        |     | 11.4       |     | 8.1        |   |
| Dobson                             |       | 6.7      |       | 10.2     |       | 6.1      |       |
|                               |       |     |       |     |       |     |       |
| Latin American  Region             |       |     |       |     |       |     |       |
| Telcel and Telcel related entities |       | 31.6     |       | 23.3     |       | 34.6     |       |
| Telefonica                         |       | 19.8     |       | 10.0     |       | 0.2      |       |
|                                    |            |          |            |          |            |          |            |  |

 

**(14) Stockholders’ Equity**

***(a) Stockholder Rights Plan***

The Company had a Stockholder Rights Plan (the “RightsPlan”), which provides that the holders of the Company’s common stock receivefive-thirds of a right (“Right”), as adjusted for prior stock splits, for eachshare of the Company’s common stock they own. Each Right entitles the holder tobuy one one-thousandth of a share of Series A Preferred Stock, par value $.01per share, at a purchase price of $80.00, subject to adjustment. The Rights arenot currently exercisable, but would become exercisable if certain eventsoccurred relating to a person or group acquiring or attempting to acquire 15%or more of the outstanding shares of common stock of the Company. Under thosecircumstances, the holders of Rights would be entitled to buy shares of theCompany’s common stock or stock of an acquirer of the Company at a 50%discount. However, in certain circumstances, the Board may make a determinationthat such an acquisition is made inadvertently, in which case the Rights Planwould not be triggered. The Rights expired on January 9, 2007.

F-29

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**CELLSTAR CORPORATION AND SUBSIDIARIES**

**NOTES TO CONSOLIDATED FINANCIALSTATEMENTS—(Continued)**

**(15) Commitments and Contingencies**

***(a) Legal Proceedings***

In February 2006, the Company received from theSEC a subpoena requiring production of certain documents relating to theCompany’s Asia-Pacific Region, which the Company exited in September 2005.The subpoena was issued in connection with a fact-finding inquiry under aformal order of investigation issued by the SEC. The Company is cooperatingfully with the SEC in this matter. The Company was advised in the Commission’sletter sent with the subpoena that the Commission’s investigation and subpoenado not mean that the Commission or its staff has concluded that CellStar oranyone else has broken the law, nor that the Commission or its staff has anegative opinion of any person, entity or security. The Company is unable topredict the outcome of the investigation, the scope of matters that the SEC maychoose to investigate in connection with the subpoena, the SEC’s views of theissues about which it is inquiring, or any action that the SEC might take.

The Company is a party to various claims, legalactions and complaints arising in the ordinary course of business. Managementbelieves that the disposition of these matters will not have a materiallyadverse effect on the consolidated financial condition or results of operationsof the Company.

***(b) Retirement Plans***

The Company established a savings plan for employeesin 1994. Employees are eligible to participate upon completing 90 days ofservice. The plan is subject to the provisions of the Employee RetirementIncome Security Act of 1974. Under provisions of the plan, eligible employeesare allowed to contribute as much as 50% of their compensation, up to theannual maximum allowed by the Internal Revenue Service. The Company may make adiscretionary matching contribution based on the Company’s profitability. TheCompany made contributions of approximately $0.3 million to the plan for eachof the years ended November 30, 2006, 2005 and 2004.

 

F-30

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**CELLSTAR CORPORATION AND SUBSIDIARIESSUPPLEMENTAL FINANCIAL DATA (UNAUDITED)(In thousands, except per share data)**
| ** **                                | ** ** | **First  Quarter** | ** ** | **Second  Quarter** | ** ** | **Third  Quarter** | ** ** | **Fourth  Quarter** | ** ** |
|-------------------------------------------|------------|--------------------|------------|---------------------|------------|--------------------|------------|---------------------|------------|
|                                      |       |               |       |                |       |               |       |                |       |
| 2006                                      |       |               |       |                |       |               |       |                |       |
| Revenues                                  |       | $                  | 205,645    |                | 216,841    |               | 237,775    |                | 282,879    |   |
| Gross profit                              |       | 17,447             |       | 16,623              |       | 16,433             |       | 14,883              | (b)        |
| Income (loss) from  continuing operations |       | 2,174              |       | 2,056               |       | 993                |       | (972                | )          |
| Discontinued  operations(a)               |       | —             |       | 606                 |       | (21                | )          | —              |       |
| Net income (loss)                         |       | 2,174              |       | 2,662               |       | 972                |       | (972                | )          |
| Net income (loss) per  share:             |       |               |       |                |       |               |       |                |       |
| Basic:                                    |       | 0.11               |       | 0.13                |       | 0.05               |       | (0.05               | )          |
| Diluted:                                  |       | 0.10               |       | 0.13                |       | 0.05               |       | (0.05               | )          |
|                                      |       |               |       |                |       |               |       |                |       |
| 2005                                      |       |               |       |                |       |               |       |                |       |
| Revenues                                  |       | $                  | 227,043    |                | 261,804    |               | 277,691    |                | 221,135    |   |
| Gross profit                              |       | 9,799              |       | 13,834              |       | 12,808             |       | 13,901              |       |
| Loss from continuing  operations          |       | (3,444             | )          | (1,758              | )          | (1,962             | )          | (108                | )          |
| Discontinued  operations(a)               |       | (939               | )          | (7,630              | )          | (5,611             | )          | (3,131              | )          |
| Net loss                                  |       | (4,383             | )          | (9,388              | )          | (7,573             | )          | (3,239              | )          |
| Net loss per share:                       |       |               |       |                |       |               |       |                |       |
| Basic and diluted:                        |       | (0.22              | )          | (0.46               | )          | (0.37              | )          | (0.16               | )          |

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(a)             In2005, the Company exited the Asia-Pacific Region. The Company has reclassifiedthe results of the Asia-Pacific Region for all periods presented.

(b)            Grossprofit in the Latin American Region declined in the fourth quarter of 2006,primarily due to the timing of vendor credits. The Company recognizes these credits and incentives in the period theagreement is made so long as the terms are supported by a writtenagreement.  The timing of receiving thesewritten agreements can cause significant variations in our gross margins andoperating results.

 

S-1

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