**UNITEDSTATESSECURITIES AND EXCHANGE COMMISSION**

**Washington, D.C. 20549**

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**FORM 10-Q**

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**x****Quarterly ReportPursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934**

**for the quarterly period ended March 31, 2007**

**or**

**o****Transition ReportPursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934**

**(For the transition period from       to        ).**

**Commission File Number: 000-31973**

**BeaconPower Corporation**

(Exact name of registrant as specified in its charter)

| **Delaware**                     |                                      | **04-3372365**       |           |
|----------------------------------|-------------------------------------------|----------------------|----------------|
| (State or other  jurisdiction of |                                      | (I.R.S. Employer     |           |
| incorporation or  organization)  |                                      | Identification  No.) |           |
|                             | ** **                                |                 | ** **     |
|                             | **234 Ballardvale Street**                |                 | ** **     |
|                             | **Wilmington,  Massachusetts**            |                 | **01887-1032** |
|                             | (Address of  principal executive offices) |                 | (Zip code)     |
|                                  |                                           |                      |                |  |  |  |

 

**(978)694-9121**

(Registrant’s telephone number, including area code)

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

Indicate by check mark whether the registrant is alarge accelerated filer, an accelerated filer, or a non-accelerated filer (asdefined in Rule 12b-2 of the Exchange Act.)
| Large  accelerated filer  o |   | Accelerated  filer  o |   | Non-accelerated  filer  x |
|----------------------------------|--------|----------------------------|--------|--------------------------------|

 

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

The number of shares of the Registrant’s common stock,par value $.01 per share, outstanding as of April 27, 2007 was 71,352,406.

 

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**BEACON POWER CORPORATION ANDSUBSIDIARY(A Development Stage Company)Table of Contents**
|                                | ** ** | **Page**                                                                                                                                                                               |
|--------------------------------|------------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| PART I. Financial  Information |       |                                                                                                                                                                                   |
|                           |       |                                                                                                                                                                                   |
|                           | Item 1.    | Financial  Statements                                                                                                                                                                  |   |   |
|                           |       |                                                                                                                                                                                   |   |   |
|                           |       | Consolidated Balance Sheets at March 31, 2007  (unaudited) and December 31, 2006 (audited).                                                                                            |   | 1 |
|                           |       |                                                                                                                                                                                   |   |   |
|                           |       | Unaudited Consolidated Statements of Operations for  the three months ended  March 31, 2007 and 2006, and for the period from May 8, 1997 (date of inception)  through March 31, 2007. |   | 2 |
|                           |       |                                                                                                                                                                                   |   |   |
|                           |       | Unaudited Consolidated Statements of Cash Flows for  the three months ended  March 31, 2007 and 2006 and for the period from May 8, 1997 (date of  inception) through March 31, 2007.  |   | 3 |
|                           |       |                                                                                                                                                                                   |   |   |
|                           |       | Notes to Unaudited Consolidated Financial Statements.                                                                                                                                  |   | 5 |
|                           |       |                                                                                                                                                                                   |   |   |
|                           | Item 2.    | Management’s  Discussion and Analysis of Financial Condition and Results of Operations.                                                                                           |   | 14 |
|                           |       |                                                                                                                                                                                   |   |   |
|                           | Item 3.    | Quantitative  and Qualitative Disclosures about Market Risk.                                                                                                                           |   | 23 |
|                           |       |                                                                                                                                                                                   |   |   |
|                           | Item 4T.   | Controls and  Procedures.                                                                                                                                                              |   | 24 |
|                           |       |                                                                                                                                                                                   |   |   |
| PART  II. Other Information    |       |                                                                                                                                                                                   |
|                           |       |                                                                                                                                                                                   |   |
|                           | Item 1.    | Legal Proceedings.                                                                                                                                                                     |   | 25 |
|                           |       |                                                                                                                                                                                   |   |   |
|                           | Item  1A.  | Risk Factors.                                                                                                                                                                          |   | 25 |
|                           |       |                                                                                                                                                                                   |   |   |
|                           | Item 2.    | Unregistered  Sales of Equity Securities and Use of Proceeds.                                                                                                                          |   | 25 |
|                           |       |                                                                                                                                                                                   |   |   |
|                           | Item 3.    | Defaults  Upon Senior Securities.                                                                                                                                                      |   | 25 |
|                           |       |                                                                                                                                                                                   |   |   |
|                           | Item 4.    | Submission  of Matters to a Vote of Security Holders.                                                                                                                                  |   | 25 |
|                           |       |                                                                                                                                                                                   |   |   |
|                           | Item 5.    | Other Information.                                                                                                                                                                     |   | 25 |
|                           |       |                                                                                                                                                                                   |   |   |
|                           | Item  6.   | Exhibits.                                                                                                                                                                              |   | 26 |
|                           |       |                                                                                                                                                                                   |   |   |
| Signatures                     |       |                                                                                                                                                                                   | 28 |

 

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**PART 1 —FINANCIAL INFORMATION**

**Item 1.Financial Statements**

**BEACONPOWER CORPORATION AND SUBSIDIARY(A Development Stage Company)Consolidated Balance Sheets**
| ** **                                                                                                                                                                   | ** ** | **March 31,** | ** ** | **December 31,** | ** ** |
|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|--------------------|------------|-----------------------|------------|
| ** **                                                                                                                                                                   | ** ** | **2007**           | ** ** | **2006**              | ** ** |
| ** **                                                                                                                                                                   | ** ** | **(unaudited)**    | ** ** | **(audited)**         | ** ** |
| **Assets**                                                                                                                                                                   | ** ** | ** **         | ** ** | ** **            | ** ** |
| Current assets:                                                                                                                                                              |       |               |       |                  |       |
| Cash and cash  equivalents                                                                                                                                                   |       | $                  | 12,136,155 |                  | $          | 5,251,337 |   |
| Accounts receivable,  trade, net                                                                                                                                             |       | 128,855            |       | 506,402               |       |
| Unbilled costs on  contracts in progress                                                                                                                                     |       | 211,795            |       | 133,240               |       |
| Prepaid expenses and  other current assets                                                                                                                                   |       | 688,272            |       | 777,276               |       |
| Total current assets                                                                                                                                                         |       | 13,165,077         |       | 6,668,255             |       |
| Property and equipment, net                                                                                                                                                  |       | 427,569            |       | 415,406               |       |
| Restricted cash                                                                                                                                                              |       | 174,346            |       | 174,346               |       |
| Total assets                                                                                                                                                                 |       | $                  | 13,766,992 |                  | $          | 7,258,007 |   |
| **Liabilities and Stockholders’ Equity**                                                                                                                                | ** ** | ** **         | ** ** | ** **            | ** ** |
| Current liabilities:                                                                                                                                                         |       |               |       |                  |       |
| Accounts payable                                                                                                                                                             |       | $                  | 205,580    |                  | $          | 453,077 |   |
| Accrued compensation  and benefits                                                                                                                                           |       | 494,929            |       | 456,075               |       |
| Other accrued expenses                                                                                                                                                       |       | 915,691            |       | 834,832               |       |
| Advance billings on  contracts                                                                                                                                               |       | 220,386            |       | 445,719               |       |
| Accrued contract loss                                                                                                                                                        |       | 566,915            |       | 821,032               |       |
| Restructuring reserve                                                                                                                                                        |       | 255,893            |       | 347,408               |       |
| Total current liabilities                                                                                                                                                    |       | 2,659,394          |       | 3,358,143             |       |
|                                                                                                                                                                         |       |               |       |                  |       |
| Commitments and contingencies (Note 5)                                                                                                                                       |       |               |       |                  |       |
|                                                                                                                                                                         |       |               |       |                  |       |
| Stockholders’ equity:                                                                                                                                                   |       |               |       |                  |       |
| Preferred Stock, $.01  par value; 10,000,000 shares authorized; no shares issued or outstanding                                                                              |       | —             |       | —                |       |
| Common stock, $.01 par  value; 110,000,000 shares authorized; 71,342,885 and 59,524,687 shares issued  and outstanding at March 31, 2007 and December 31, 2006, respectively |       | 713,429            |       | 595,247               |       |
| Additional  paid-in-capital                                                                                                                                                  |       | 164,605,565        |       | 154,426,395           |       |
| Deficit accumulated  during the development stage                                                                                                                            |       | (153,498,557       | )          | (150,408,939          | )          |
| Treasury stock, 421,692  shares at cost                                                                                                                                      |       | (712,839           | )          | (712,839              | )          |
| Total stockholders’  equity                                                                                                                                             |       | 11,107,598         |       | 3,899,864             |       |
| Total liabilities and stockholders’ equity                                                                                                                              |       | $                  | 13,766,992 |                  | $          | 7,258,007 |   |

 

See notes to unaudited consolidated financialstatements.

1

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**BEACON POWER CORPORATION ANDSUBSIDIARY****(A Development StageCompany)Consolidated Statements of Operations (Unaudited)**
| ** **                                  | ** ** | ** **                                           | ** ** | ** **                      | ** ** | **Cumulative from**          | ** ** |
|---------------------------------------------|------------|------------------------------------------------------|------------|---------------------------------|------------|-----------------------------------|------------|
| ** **                                  | ** ** | ** **                                           | ** ** | ** **                      | ** ** | **May 8, 1997**         | ** ** |
| ** **                                  | ** ** | ** **                                           | ** ** | ** **                      | ** ** | **(date of inception)** | ** ** |
| ** **                                  | ** ** | **Three months ended March 31,** | ** ** | **through March 31,** | ** ** |
| ** **                                  | ** ** | **2007**                                             | ** ** | **2006**                        | ** ** | **2007**                          | ** ** |
| Revenue                                     |       | $                                                    | 392,706    |                            | $          | 288,595                           |       | $ | 3,724,419 |   |
| Cost of goods sold                          |       | 392,246                                              |       | 244,925                         |       | 4,270,457                         |       |
| Gross profit                                |       | 460                                                  |       | 43,670                          |       | (546,038                          | )          |
| Operating expenses:                         |       |                                                 |       |                            |       |                              |       |
| Selling, general  and administrative        |       | 1,414,359                                            |       | 1,929,532                       |       | 46,512,927                        |       |
| Research and  development                   |       | 1,659,558                                            |       | 1,061,445                       |       | 61,691,021                        |       |
| Loss on contract  commitments               |       | —                                               |       | —                          |       | 3,295,250                         |       |
| Depreciation and  amortization              |       | 25,968                                               |       | 21,229                          |       | 4,342,634                         |       |
| Casualty loss                               |       | 107,943                                              |       | —                          |       | 177,027                           |       |
| Restructuring  charges                      |       | —                                               |       | —                          |       | 2,159,280                         |       |
| Loss on  impairment of assets               |       | —                                               |       | —                          |       | 4,663,916                         |       |
| Total operating  expenses                   |       | 3,207,828                                            |       | 3,012,206                       |       | 122,842,055                       |       |
| Loss from operations                        |       | (3,207,368                                           | )          | (2,968,536                      | )          | (123,388,093                      | )          |
| Other income (expense):                     |       |                                                 |       |                            |       |                              |       |
| Interest income                             |       | 113,885                                              |       | 145,504                         |       | 4,659,272                         |       |
| Interest expense                            |       | —                                               |       | —                          |       | (1,093,703                        | )          |
| Gain on sale of  investment                 |       | —                                               |       | —                          |       | 3,562,582                         |       |
| Other income  (expense)                     |       | 3,865                                                |       | 1,382                           |       | (232,421                          | )          |
| Total other  income (expense), net          |       | 117,750                                              |       | 146,886                         |       | 6,895,730                         |       |
| Net loss                                    |       | (3,089,618                                           | )          | (2,821,650                      | )          | (116,492,363                      | )          |
| Preferred stock  dividends                  |       | —                                               |       | —                          |       | (36,825,680                       | )          |
| Accretion of  convertible preferred stock   |       | —                                               |       | —                          |       | (113,014                          | )          |
| Loss to common  shareholders                |       | $                                                    | (3,089,618 | )                               | $          | (2,821,650                        | )          | $ | (153,431,057 | ) |
| Loss per share, basic  and diluted          |       | $                                                    | (0.05      | )                               | $          | (0.05                             | )          |   |   |
| Weighted-average common  shares outstanding |       | 65,432,694                                           |       | 58,700,036                      |       |                              |       |

 

See notes to unaudited consolidated financialstatements.

2

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**BEACONPOWER CORPORATION AND SUBSIDIARY(A Development Stage Company)Consolidated Statements of Cash Flows (Unaudited)**
| ** **                                                                   | ** ** | ** **                                           | ** ** | ** **                      | ** ** | **Cumulative from**          | ** ** |
|------------------------------------------------------------------------------|------------|------------------------------------------------------|------------|---------------------------------|------------|-----------------------------------|------------|
| ** **                                                                   | ** ** | ** **                                           | ** ** | ** **                      | ** ** | **May 8, 1997**         | ** ** |
| ** **                                                                   | ** ** | ** **                                           | ** ** | ** **                      | ** ** | **(date of inception)** | ** ** |
| ** **                                                                   | ** ** | **Three months ended March 31,** | ** ** | **through March 31,** | ** ** |
| ** **                                                                   | ** ** | **2007**                                             | ** ** | **2006**                        | ** ** | **2007**                          | ** ** |
| Cash flows from  operating activities:                                       |       |                                                 |       |                            |       |                              |       |
| Net loss                                                                     |       | $                                                    | (3,089,618 | )                               | $          | (2,821,650                        | )          | $ | (116,492,363 | ) |
| Adjustments to  reconcile net loss to net cash used in operating activities: |       |                                                 |       |                            |       |                              |       |
| Depreciation and  amortization                                               |       | 25,968                                               |       | 21,229                          |       | 4,342,635                         |       |
| Loss (gain) on  sale of fixed assets                                         |       | (3,865                                               | )          | —                          |       | 192,304                           |       |
| Impairment of  assets                                                        |       | 7,263                                                |       | —                          |       | 4,557,857                         |       |
| (Expenses paid)  restructuring charge                                        |       | (91,515                                              | )          | (91,515                         | )          | 255,893                           |       |
| Interest expense  relating to issuance of warrants                           |       | —                                               |       | —                          |       | 371,000                           |       |
| Non-cash charge  for change in option terms                                  |       | —                                               |       | —                          |       | 346,591                           |       |
| Non-cash charge  for settlement of lawsuit                                   |       | —                                               |       | —                          |       | 303,160                           |       |
| Amortization of  deferred consulting expense, net                            |       | —                                               |       | —                          |       | 1,160,784                         |       |
| Amortization of  deferred stock compensation                                 |       | —                                               |       | 460,289                         |       | 3,699,721                         |       |
| Options and  warrants issued for consulting services                         |       | —                                               |       | —                          |       | 1,585,654                         |       |
| Services and  interest expense paid in preferred stock                       |       | —                                               |       | —                          |       | 11,485                            |       |
| Gain on sale of  investments                                                 |       | —                                               |       | —                          |       | (3,562,582                        | )          |
| Stock-based  compensation                                                    |       | 580,257                                              |       | 341,863                         |       | 1,850,381                         |       |
| Changes in  operating assets and liabilities:                                |       |                                                 |       |                            |       |                              |       |
| Accounts  receivable                                                         |       | 377,547                                              |       | 229,618                         |       | (128,855                          | )          |
| Unbilled costs  on government contracts                                      |       | (78,555                                              | )          | 400,948                         |       | (211,795                          | )          |
| Prepaid expenses  and other current assets                                   |       | 89,004                                               |       | 97,905                          |       | (787,932                          | )          |
| Accounts payable                                                             |       | (247,497                                             | )          | 21,576                          |       | 205,580                           |       |
| Accrued  compensation and benefits                                           |       | 38,854                                               |       | 245,053                         |       | 494,929                           |       |
| Advance billings  on contracts                                               |       | (225,333                                             | )          | 73,511                          |       | 220,386                           |       |
| Accrued interest                                                             |       | —                                               |       | —                          |       | 275,560                           |       |
| Accrued loss on  contract commitments                                        |       | (254,117                                             | )          | (355,334                        | )          | 566,915                           |       |
| Other accrued  expenses and current liabilities                              |       | 80,859                                               |       | 32,649                          |       | 924,361                           |       |
| Net cash used in  operating activities                                       |       | (2,790,748                                           | )          | (1,343,858                      | )          | (99,818,331                       | )          |
| Cash flows from  investing activities:                                       |       |                                                 |       |                            |       |                              |       |
| Purchase of  investments                                                     |       | —                                               |       | —                          |       | (1,190,352                        | )          |
| Sale of  investments                                                         |       | —                                               |       | —                          |       | 4,752,934                         |       |
| Restricted cash                                                              |       | —                                               |       | —                          |       | (174,346                          | )          |
| Increase in  other assets                                                    |       | —                                               |       | —                          |       | (412,072                          | )          |
| Purchases of  property and equipment                                         |       | (45,606                                              | )          | —                          |       | (8,857,356                        | )          |
| Sale of property  and equipment                                              |       | 4,077                                                |       | —                          |       | 202,674                           |       |
| Net cash used in  investing activities                                       |       | (41,529                                              | )          | —                          |       | (5,678,518                        | )          |
|                                                                              |            |                                                      |            |                                 |            |                                   |            |  |  |  |

 

3

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| ** **                                           | ** ** | ** **                                           | ** ** | ** **                      | ** ** | **Cumulative from**          | ** ** |
|------------------------------------------------------|------------|------------------------------------------------------|------------|---------------------------------|------------|-----------------------------------|------------|
| ** **                                           | ** ** | ** **                                           | ** ** | ** **                      | ** ** | **May 8, 1997**         | ** ** |
| ** **                                           | ** ** | ** **                                           | ** ** | ** **                      | ** ** | **(date of inception)** | ** ** |
| ** **                                           | ** ** | **Three months ended March 31,** | ** ** | **through March 31,** | ** ** |
| ** **                                           | ** ** | **2007**                                             | ** ** | **2006**                        | ** ** | **2007**                          | ** ** |
| Cash flows from  financing activities:               |       |                                                 |       |                            |       |                              |       |
| Initial public  stock offering, net of expenses      |       | —                                               |       | —                          |       | 49,341,537                        |       |
| Stock offering,  net of expenses                     |       | 9,717,095                                            |       | —                          |       | 26,825,572                        |       |
| Payment of  dividends                                |       | —                                               |       | —                          |       | (1,159,373                        | )          |
| Shares issued  under employee stock purchase plan    |       | —                                               |       | —                          |       | 152,341                           |       |
| Exercise of  employee stock options                  |       | —                                               |       | —                          |       | 2,203,622                         |       |
| Issuance of  preferred stock                         |       | —                                               |       | —                          |       | 32,868,028                        |       |
| Repayment of  subscription receivable                |       | —                                               |       | —                          |       | 5,000,000                         |       |
| Proceeds from  capital leases                        |       | —                                               |       | —                          |       | 495,851                           |       |
| Repayment of  capital leases                         |       | —                                               |       | —                          |       | (1,031,395                        | )          |
| Repurchase  company stock                            |       | —                                               |       | —                          |       | (613,179                          | )          |
| Proceeds from  notes payable issued to investors     |       | —                                               |       | —                          |       | 3,550,000                         |       |
| Net cash  provided by (used in) financing activities |       | 9,717,095                                            |       | —                          |       | 117,633,004                       |       |
| (Decrease) increase in cash  and cash equivalents    |       | 6,884,818                                            |       | (1,343,858                      | )          | 12,136,155                        |       |
| Cash and cash  equivalents, beginning of period      |       | 5,251,337                                            |       | 13,890,162                      |       | —                            |       |
| Cash and cash  equivalents, end of period            |       | $                                                    | 12,136,155 |                            | $          | 12,546,304                        |       | $ | 12,136,155 |   |
| Supplemental disclosure  of cash flow information:   |       |                                                 |       |                            |       |                              |       |
| Cash paid for  interest                              |       | $                                                    | —     |                            | $          | —                            |       | $ | 488,126 |   |
| Cash paid for  taxes                                 |       | $                                                    | —     |                            | $          | —                            |       | $ | 32,750 |   |
| Assets acquired  through capital lease               |       | $                                                    | —     |                            | $          | —                            |       | $ | 535,445 |   |

 

See notes to unaudited consolidated financialstatements.

4

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**BEACONPOWER CORPORATION AND SUBSIDIARY(A Development Stage Company)Notes to Unaudited Consolidated Financial Statements**

**Note 1.  Nature of Business andOperations**

*Nature of Business*

Beacon Power Corporation (the “Company”, “Beacon”, “we”,“our”, or “us”) (a development stage company) was incorporated on May 8,1997.  Since our inception, we have been primarily engaged in thedevelopment of flywheel devices for storing and transmitting kineticenergy.  During 2000 we completed an initial public offering of our commonstock and raised approximately $49.3 million net of offering expenses, andduring 2005 we raised approximately $17 million via private placements of ourcommon stock.  An additional $9.8 million was raised through the sale ofcommon stock and warrants off our shelf registration during the first quarterof 2007. We expect to generate revenues in the future from thecommercialization of our flywheel energy storage systems to supply frequencyregulation services to the electricity grid.  We believe that our sustainableenergy storage and power conversion solutions can help provide reliableelectric power for the utility, renewable energy, and distributed generationmarkets. In addition, we believe as the commercialization of our technologiescontinues, other cost-effective applications for our flywheel systems willdevelop that will provide additional revenues. Because we have not yetgenerated a significant amount of revenue from our principal operations, we areaccounted for as a development stage company under Statement of FinancialAccounting Standards No. 7.

*Operations*

We have experienced net losses since our inceptionand, as of March 31, 2007, had an accumulated deficit of approximately $153.5million.  We are focused on the commercialization of our Smart Energy MatrixTMflywheel system for frequency regulation and completion of our governmentresearch and development contracts.  This ongoing research and developmentand deployment of our Smart Energy MatrixTM flywheel system will requiresubstantial additional outlays of capital.

We expect to have positive EBITDA (earnings beforeinterest, taxes, depreciation and amortization) and be cash flow positive by2010; however, we will need to raise additional capital in 2007 and 2008 aswell as project finance for the construction of our frequency regulationfacilities.  Based on our forecasted cashusage rates, we estimate that we have adequate cash to fund operations into thefourth quarter of 2007.  We will seek to obtain additional equityinvestments during 2007 and 2008 to cover expenses relating to continuingoperations including ongoing research and development efforts, ramping up ourmanufacturing and assembly capacity, and designing and building frequencyregulation facilities.

**Note 2.  Basis of Presentation and Summary ofSignificant Accounting Policies**

**Basis of Presentation**

The accompanying unaudited consolidated financialstatements have been prepared using accounting principles generally accepted inthe United States of America except that certain information and footnotedisclosures normally included in consolidated financial statements prepared inaccordance with generally accepted accounting principles have been condensed oromitted in this Form 10-Q.  We suggest that the consolidated financialstatements presented herein be read in conjunction with our consolidatedfinancial statements and notes thereto included in our Annual Report on Form10-K, for the year ended December 31, 2006.  In our management’s opinion,all adjustments, consisting of normal recurring accruals considered necessaryfor a fair presentation have been included in the accompanying unauditedfinancial statements.  Operating results for the three months ended March31, 2007 are not necessarily indicative of the results that may be expected forthe full year ending December 31, 2007.

5

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*Going Concern*

The accompanying consolidated financial statementshave been prepared on a going concern basis, which contemplates the realizationof assets and the satisfaction of liabilities in the normal course of business. As shown in our consolidated financial statements, we have had minimalrevenues, and incurred losses of approximately $153.5 million since ourinception, including losses during the three months ending March 31, 2007 ofapproximately $3.1 million.  We have approximately $12.1 million of cashand cash equivalents on hand at March 31, 2007.  Since our operating cashrequirements far exceed any cash generated from operations, we may be unable tocontinue as a going concern.  The consolidated financial statementscontained herein do not include any adjustments relating to the recoverabilityand classification of liabilities that might be necessary should we be unableto continue as a going concern.

We recognize that our continuation as a going concernis dependent upon our ability to generate sufficient cash flow to allow us tosatisfy our obligations on a timely basis.  The generation of sufficientcash flow is dependent, in the short term, on our ability to obtain additionalequity financing, and in the long term, on our ability to successfullyestablish a share of the frequency regulation market based on deploying ourSmart Energy MatrixTM flywheel systems that are now under development and obtainproject financing to develop frequency regulation facilities.

*Consolidation*

The accompanying consolidated financial statementsinclude the accounts of Beacon Power Corporation and our subsidiary BeaconPower Securities Corporation.  Our former subsidiary, Beacon AcquisitionCo., was inactive in 2005 and was dissolved in January 2006.  Allsignificant inter-company accounts and transactions have been eliminated inconsolidation.

*Loss per Share — Basic and Diluted*

Basic and diluted losses per share have been computedusing the weighted-average number of shares of common stock outstanding duringeach period. Warrants, options and other securities exercisable for commonshares are used in the calculation of fully-diluted EPS only if theirconversion to common shares would decrease income or increase loss per share fromcontinuing operations.  Since the quarters ended March 31, 2007 and 2006reflect losses, including the potential conversion of warrants and options inthe diluted EPS calculation would decrease loss per share. Thus, they areconsidered anti-dilutive and are not included in the calculation of earningsper share.

**Summary of Significant Accounting Policies**

*Use of Estimates*

The preparation of consolidated financial statementsin accordance with accounting principles generally accepted in the UnitedStates of America requires management to make estimates and assumptions thataffect the reported amounts of assets and liabilities and disclosure ofcontingent assets and liabilities at the date of the consolidated financialstatements and the reported amounts of revenues and expenses during thereporting period.  Actual results could differ from those estimates.

*Stock-Based Compensation*

During the first quarter of 2006, we adopted theprovisions of, and accounted for, stock-based compensation in accordance with theFinancial Accounting Standards Board’s Statement of Financial AccountingStandards No. 123R (“SFAS 123R”), “Share-Based Payment”. Under the fair valuerecognition provisions of SFAS 123R, stock-based compensation cost is measuredat the grant date based on the fair value of the award and is recognized as anexpense as it is earned over the requisite service period, which is the vestingperiod. To implement this standard, we elected the modified-prospectivetransition method, under which prior periods are not revised for comparativepurposes. The valuation provisions of SFAS 123R apply to new grants and togrants that were outstanding as of the effective date and are subsequentlymodified. Estimated compensation expense for grants that were outstanding as ofthe effective date will be recognized over the remaining vesting period usingthe compensation cost estimated for the SFAS 123 pro forma disclosures.

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The adoption of SFAS 123R had a material impact on ourconsolidated financial position and results of operations. See Note 8 forfurther information regarding our stock-based compensation assumptions andexpenses.

**Note 3.  Accounts Receivable**

Our trade accounts receivable include amounts due fromcustomers and are reported net of a reserve for uncollectible accounts asfollows:
|                             | ** ** | **March 31,** | ** ** | **December 31,** | ** ** |
|-----------------------------|------------|--------------------|------------|-----------------------|------------|
| ** **                  | ** ** | **2007**           | ** ** | **2006**              | ** ** |
| Accounts receivable,  trade |       | $                  | 135,662    |                  | $          | 525,270 |   |
| Reserve                     |       | (6,807             | )          | (18,868               | )          |
| Accounts receivable,  net   |       | $                  | 128,855    |                  | $          | 506,402 |   |

 

Two of our research and development contracts containholdback provisions that allow our customers to withhold 10% from each invoicepayment. At March 31, 2007 and December 31, 2006 we had approximately $55,000of holdbacks in our accounts receivable balance.  These holdbacks arepayable once work has been satisfactorily completed and the final report hasbeen received and approved. We believe these holdbacks will be collected uponcompletion of the contracts, and therefore have not recorded any reserveagainst these amounts.

**Note 4.  Property and Equipment**

Details of our property and equipment follow:
|                                                 | ** ** | **Estimated** | ** ** | ** **         | ** ** | ** **            | ** ** |
|-------------------------------------------------|------------|---------------|------------|--------------------|------------|-----------------------|------------|
| ** **                                      | ** ** | **Useful**    | ** ** | **March 31,** | ** ** | **December 31,** | ** ** |
| ** **                                      | ** ** | **Lives**     | ** ** | **2007**           | ** ** | **2006**              | ** ** |
| Machinery and equipment                         |       | 5 years       |       | $                  | 804,840    |                  | $          | 814,875 |   |
| Service vehicles                                |       | 5 years       |       | 16,763             |       | 16,763                |       |
| Furniture and fixtures                          |       | 7 years       |       | 255,940            |       | 255,940               |       |
| Office equipment                                |       | 3 years       |       | 1,502,565          |       | 1,486,951             |       |
| Leasehold improvements                          |       | Lease term    |       | 533,352            |       | 533,352               |       |
| Equipment under capital  lease obligations      |       | Lease term    |       | 850,579            |       | 918,285               |       |
| Total                                           |       |          |       | $                  | 3,964,039  |                  | $          | 4,026,166 |   |
| Less accumulated  depreciation and amortization |       |          |       | (3,536,470         | )          | (3,610,760            | )          |
| Property and  equipment, net                    |       |          |       | $                  | 427,569    |                  | $          | 415,406 |   |

 

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**Note 5.  Commitments and Contingencies**

The following table summarizes our commitments atMarch 31, 2007:
| Description of  Commitment | ** ** | **Remainder of  year ending  December 31,  2007** | ** ** | **Year ending  December  31, 2008** | ** ** | **Thereafter** | ** ** | **Total** | ** ** |
|---------------------------------|------------|------------------------------------------------------------------|------------|------------------------------------------|------------|----------------|------------|-----------|------------|
| Operating leases                |       | $                                                                | 264,706    |                                     | $          | —         |       | $         | —     |   | $ | 264,706 |   |
| Purchase obligations            |       | 2,163,715                                                        |       | —                                   |       | —         |       | 2,163,715 |       |
| Total Commitments               |       | $                                                                | 2,428,421  |                                     | $          | —         |       | $         | —     |   | $ | 2,428,421 |   |

 

We lease office, light manufacturing and assemblyspace under an operating lease that expires September 30, 2007. We haveprovided the lessor with an irrevocable letter of credit securing ourperformance under this lease with a balance at March 31, 2007 of $174,346,which is reduced annually during the lease term.  This letter of credit issecured by a cash deposit, which is included in restricted cash in theaccompanying consolidated balance sheets. We are currently in negotiations with various parties to either extendthe lease at our current location or to sign a new lease at another location.

At March 31, 2007 we had firm, non-cancelable purchasecommitments with our suppliers to acquire components for the development of theSmart Energy 25 flywheel system (a key component to the Smart Energy Matrix),and to satisfy contractual obligations for our research and developmentprograms in the amount of approximately $2.2 million.

*Legal Proceedings*

We may from time to time be subject to legalproceedings, often likely to involve routine litigation incidental to ourbusiness.  The outcome of any legal proceeding is not within our completecontrol, may often be difficult to predict and may be resolved over very longperiods of time.  Estimating probable losses associated with any legalproceedings or other loss contingency is very complex and requires the analysisof many factors including assumptions about potential actions by thirdparties.  A loss contingency is recorded as a liability in theconsolidated financial statements when it is both (i) probable and known that aliability has been incurred and (ii) the amount of the loss is reasonablyestimable.  If the reasonable estimate of the loss is a range and noamount within the range is a better estimate, the minimum amount of the rangeis recorded as a liability.  If a loss contingency is not probable or notreasonably estimable, a liability is not recorded in the consolidated financialstatements.

**Note 6.  Restructuring and AssetImpairment Charges**

We periodically evaluate all of our property andequipment as required by Statement of Financial Accounting Standards No. 144 “Accountingfor the Impairment or Disposal of Long-Lived Assets.” In 2002, we incurred arestructuring and impairment charge of $6.5 million of which $4.3 millionrepresented impaired capital equipment and leasehold improvements, $0.3 millionrelated to severance costs and $1.9 million related to a reserve against futurelease payments and related facility costs.  The reserve against futurelease payments is classified as “Restructuring Reserve” in the currentliabilities section of the balance sheet.

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At March 31, 2007 and 2006, the restructuring reservesare as follows:
|                        | ** ** | **Three months ended March 31,** | ** ** |
|------------------------|------------|------------------------------------------------------|------------|
| ** **             | ** ** | **2007**                                             | ** ** | **2006** | ** ** |
| Beginning balance      |       | $                                                    | 347,408    |   | $ | 713,469 |   |
| Charges for the period |       | —                                               |       | — |   |
| Reductions             |       | (91,515                                              | )          | (91,515 | ) |
| Ending balance         |       | $                                                    | 255,893    |   | $ | 621,954 |   |

 

**Note 7.  Stock Warrants**

The following schedule shows warrants outstanding asof March 31, 2007:
| Description                                    | ** ** | **Grant  Date** | ** ** | **Expiration  Date** | ** ** | **Strike  Price** | ** ** | **Issued and  Outstanding** | ** ** |
|------------------------------------------------|------------|-----------------|------------|----------------------|------------|-------------------|------------|----------------------------------|------------|
| Class F Financing  (extended)                  |       | 5/23/2000       |       | 5/23/2007            |       | $                 | 2.250      |                             | 1,333,333  |   |
| May 24, 2005 Financing                         |       | 5/24/2005       |       | 5/24/2010            |       | $                 | 1.008      |                             | 800,000    |   |
| November 8, 2005  Financing (Investors)        |       | 11/8/2005       |       | 11/8/2010            |       | $                 | 1.990      |                             | 3,287,821  |   |
| November 8, 2005  Financing (Placement Agents) |       | 11/8/2005       |       | 11/8/2010            |       | $                 | 2.210      |                             | 450,000    |   |
| February 15, 2007 Shelf  Issue                 |       | 2/15/2007       |       | 2/15/0012            |       | $                 | 1.330      |                             | 6,261,786  |   |
| Total warrants  outstanding                    | ** ** | ** **      | ** ** | ** **           | ** ** | ** **        |       | 12,132,940                       |       |

 

We have outstanding four series of warrants topurchase our common stock. Holders of the warrants are not entitled to receivedividends, vote, receive notice of any meetings of stockholders or otherwisehave any right as stockholders with respect to their warrant shares.

*Class F Preferred Stock Financing Warrant*

The warrant, originally issued in connection with ourpre-IPO Class F Preferred Stock financing, is exercisable for 1,333,333 sharesof our common stock at an exercise price of $2.25 per share.  Inconnection with the Investment Agreement among us, Perseus Capital, L.L.C. andPerseus 2000 Expansion, L.L.C., dated April 22, 2005, we extended by two yearsthe term of the warrant.  The holder of this warrant, Perseus Capital,L.L.C., may exercise the warrant at any time prior to its expiration on May 23,2007.

*April 2005 Financing Warrant*

In connection with the investment by Perseus 2000Expansion, L.L.C., we issued a warrant for 800,000 shares of our common stockat an exercise price of $1.008.

*November 2005 Financing Warrants*

As part of a financing transaction in November 2005,we issued warrants to purchase an aggregate of 2,960,527 shares of our commonstock to ten “accredited investors.”  Each warrant was exercisable for aperiod of five years and the per share exercise price for the warrant shareswas $2.21.  The terms of these warrantsincluded anti-dilution provisions which required us to adjust the exerciseprice and the number of shares of our common stock to be issued upon exerciseof the warrants under certain circumstances, which include:

·                  Subdivisions,stock dividends or combinations of our common stock

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·                  Reclassifications,exchanges, substitutions, or in-kind distributions that result in a change inthe number and/or class of the securities issuable upon exercise of thewarrants

·                  Reorganizations,mergers and similar transactions; and

·                  Issuance ofadditional shares of our common stock, or securities convertible into ourcommon stock, at a price per share lower than the closing stock price on thedate of this transaction, which was $1.85.

In February 2007, we issued stock at a price per sharebelow the $1.85 threshold noted above. Based on the warrants’ anti-dilution provisions, the exercise price ofthese warrants was adjusted from $2.21 to $1.99 and 327,294 additional warrantswere issued to the investors.  Warrantsissued to the placement agents were not subject to adjustment.

*February2007 Shelf Warrants*

In February 2007, we sold 11,814,687 units of theCompany at a purchase price of $0.90 per unit. Each unit consists of one share of our common stock, par value $0.01 pershare, and a warrant to purchase 0.5 shares of common stock at an exerciseprice of $1.33 per share, for a total of 6,261,786 warrants.  These warrants become exercisable as ofAugust 16, 2007, and expire five years from date of issue. The units wereissued pursuant to a prospectus supplement filed with the Securities andExchange Commission in connection with a shelf takedown from our registrationstatement on Form S-3, which became effective on December 14, 2006.

**Note 8.  Stock Based Compensation**

**Description of Plans**

*Stock Option Plan*

Our Third Amended and Restated 1998 Stock IncentivePlan allows for the granting of stock options to purchase up to 23,000,000shares of our common stock.  Options may be granted to our employees,officers, directors, consultants and advisors.  Under the terms of theoption plan, incentive stock options (“ISOs”) are to be granted at the fairmarket value of our common stock at the date of grant, and nonqualified stockoptions (“NSOs”) are to be granted at a price determined by the Board ofDirectors.  In general, the Board has authorized vesting periods of one tothree years and terms of varying length but in no case more than 10years.  Our stock option program is a long-term retention program that is intendedto attract, retain and provide incentives for talented employees, officers anddirectors, and to align stockholder and employee interests.  We considerour option program critical to our operation and productivity; essentially allof our employees participate.  At March 31, 2007, we had 8,732,268 sharesreserved for issuance under this plan, excluding shares currently reserved foroutstanding options and RSUs.

*Employee Stock Purchase Plan*

Our Employee Stock Purchase Plan (the “ESPP”) allowssubstantially all of our employees to purchase shares of our common stock at adiscount through payroll deductions.  Participating employees may purchaseour common stock at a purchase price equal to 85% of the lower of the fairmarket value of the common stock at the beginning of an offering period or onthe exercise date.  Employees may designate up to 15% of their basecompensation for the purchase of common stock under this plan.  The ESPPprovides for the purchase of up to 2,000,000 shares of our common stock. At March 31, 2007, we had 1,864,154 shares reserved for issuance under thisplan.

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*Restricted Stock Unit Arrangements*

Our Third Amended and Restated 1998 Stock IncentivePlan permits the grant of restricted stock units (“RSUs”) to our employees,officers, directors and other service providers.  We use RSUs to (i) align our employees’ interestswith those of the Company, (ii) motivate our employees to achieve key productdevelopment milestones and thus create stockholder value, (iii) retain keyemployees by providing equity to such employees and (iv) conserve cash, bypaying bonuses in the form of RSUs, rather than in cash, but with the number ofsuch RSUs calculated on a discounted basis to compensate for the reducedliquidity as compared to cash.  With respect to the RSUs that are grantedin lieu of cash bonuses, the number of RSUs granted are based on performance,and are automatically converted into shares of common stock in four equaltranches in the fiscal year following the year of performance. Certain otherRSUs are granted to our officers as a form of equity incentive, are not tied toperformance, and vest over a three-year period in equal quarterlyinstallments.  There are also other performance-based restricted stockunits (PSUs) granted to our officers that cliff-vest upon the achievement ofcertain earnings-based milestones and upon the Company achieving a level ofrevenue such that it is no longer treated as a development stage company foraccounting purposes, both such vesting events subject to the recipient officerbeing employed by us during the period ending with the milestones. The unvestedportion of any RSU or PSU grant is subject to forfeiture upon the holder’sresignation or termination for cause.

Restricted stock activity as of December 31, 2006 andfor the three months ended March 31, 2007 is as follows:
|                                                      | ** ** | **Three months ended  March 31,** | ** ** | **Year ended  December 31,** | ** ** |
|------------------------------------------------------|------------|--------------------------------------------------|------------|----------------------------------------|------------|
| **Description**                                      | ** ** | **2007**                                         | ** ** | **2006**                               | ** ** |
| ** **                                           | ** ** | **(number of shares)**                 | ** ** |
| Shares issued related  to vested RSUs:               |       |                                             |       |                                   |       |
| Current year grant  based upon prior year bonus plan |       | —                                           |       | 587,374                                |       |
| Vesting of remaining  shares from prior year grants  |       | 3,511                                            |       | 108,786                                |       |
| Based upon current year  executive officer agreement |       | —                                           |       | 10,533                                 |       |
|                                                 |       |                                             |       |                                   |       |
| Vested RSUs not yet  converted to stock              |       | 9,521                                            |       | 3,511                                  |       |
|                                                 |       |                                             |       |                                   |       |
| RSUs and PSUs granted  but not vested:               |       |                                             |       |                                   |       |
| Related to 2006  executive officer agreement         |       | 24,586                                           |       | 28,097                                 |       |
| Related to 2007  executive officer agreement         |       | 66,138                                           |       | —                                 |       |
| Related to  performance-based executive plan         |       | 1,265,823                                        |       | 1,265,823                              |       |

 

**Stock Option Plan Schedules**

Stock option activity for the first three months of2007 was as follows:
|                                 | ** ** | ** **         | ** ** | **Weighted-** | ** ** | **Weighted-** | ** ** |
|---------------------------------|------------|--------------------|------------|---------------|------------|---------------|------------|
| ** **                      | ** ** | ** **         | ** ** | **Average**   | ** ** | **Average**   | ** ** |
| ** **                      | ** ** | **Number of** | ** ** | **Exercise**  | ** ** | **Fair**      | ** ** |
| ** **                      | ** ** | **Shares**         | ** ** | **Price**     | ** ** | **Value**     | ** ** |
| Outstanding, December  31, 2006 |       | 6,546,886          |       | $             | 1.18       |          |       |   |
| Granted                         |       | 2,017,408          |       | $             | 0.95       |          | $          | 0.54 |   |
| Exercised                       |       | —             |       | $             | —     |          |       |   |
| Canceled,  forfeited or expired |       | (32,917            | )          | $             | 1.66       |          |       |   |
| Outstanding, March 31,  2007    |       | 8,531,377          |       | $             | 1.16       |          |       |   |
|                                 |            |                    |            |               |            |               |            |  |  |

 

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The following table summarizes information about stockoptions outstanding at March 31, 2007:
|               | ** ** | ** **          | ** ** | **Weighted-**         | ** ** | ** **    | ** ** | ** **          | ** ** | **Vested**    | ** ** |
|---------------|------------|---------------------|------------|-----------------------|------------|---------------|------------|---------------------|------------|---------------|------------|
| ** **    | ** ** | ** **          | ** ** | **Average**           | ** ** | **Weighted-** | ** ** | ** **          | ** ** | **Weighted-** | ** ** |
| ** **    | ** ** | **Number**          | ** ** | **Remaining**         | ** ** | **Average**   | ** ** | **Vested**          | ** ** | **Average**   | ** ** |
| **Exercise**  | ** ** | **of Options** | ** ** | **Contractual**       | ** ** | **Exercise**  | ** ** | **Number**          | ** ** | **Exercise**  | ** ** |
| **Price**     | ** ** | **Outstanding**     | ** ** | **Life (Years)** | ** ** | **Price**     | ** ** | **of Options** | ** ** | **Price**     | ** ** |
| $0.25 - $0.74 |       | 3,239,886           |       | 7.35                  |       | $             | 0.70       |                | 3,239,886  |          | $          | 0.70 |   |
| $0.87 - $1.26 |       | 3,550,207           |       | 8.00                  |       | $             | 0.94       |                | 1,491,559  |          | $          | 0.92 |   |
| $1.51 - $2.19 |       | 1,284,034           |       | 8.14                  |       | $             | 1.87       |                | 782,556    |          | $          | 1.95 |   |
| $2.50 - $3.10 |       | 130,000             |       | 3.10                  |       | $             | 2.64       |                | 130,000    |          | $          | 2.64 |   |
| $4.10 - $5.27 |       | 222,250             |       | 3.92                  |       | $             | 4.40       |                | 222,250    |          | $          | 4.40 |   |
| $6.00 - $9.31 |       | 105,000             |       | 3.56                  |       | $             | 6.40       |                | 105,000    |          | $          | 6.40 |   |
| Total         |       | 8,531,377           |       |                  |       |          |       | 5,971,251           |       |          |       |

 

**Stock Compensation**

Beginning on January 1, 2006, we adopted SFAS 123R.See Note 2 for a description of our adoption of SFAS 123R. We currently use theBlack-Scholes option pricing model to determine the fair value of stock optionsand employee stock purchase plan shares. The valuations determined using thismodel are affected by our stock price as well as assumptions we make regardinga number of complex and subjective variables, including our stock pricevolatility, expected life of the option, risk-free interest rate and expecteddividends, if any.

We estimate the volatility of our common stock byusing historical volatility.  We estimate the expected term of the shareor option grant, and determine a risk-free interest rate based on U.S. Treasuryissues with remaining terms similar to the expected term of the stock oroptions. We do not anticipate paying any cash dividends in the foreseeablefuture and therefore use an expected dividend yield of zero in our valuationmodel. We are required to estimate forfeitures at the time of grant and revisethose estimates in subsequent periods. All stock-based payment awards areamortized as they are earned over the requisite service periods of the awards,which are generally the vesting periods.

Restricted stock units (RSUs) are valued at the stockprice at date of grant, and expensed ratably over the performance period orvesting period, as appropriate.  The number of PSUs for which stockcompensation expense is calculated is based upon management’s assessment of thelikelihood of achieving the performance targets.

The assumptions used to value stock option grants forthe three months ended March 31, 2007 and 2006, respectively, are as follows:
|                                                                                          | ** ** | **Three months ended March 31,** | ** ** |
|------------------------------------------------------------------------------------------|------------|------------------------------------------------------|------------|
| ** **                                                                               | ** ** | **2007**                                             | ** ** | **2006** | ** ** |
| Risk-free interest rate                                                                  |       | 4.48% - 4.90%                                        |       | 4.68% - 4.77% |   |
| Expected life of option                                                                  |       | 3 years                                              |       | 3 years |   |
| Expected dividend  payment rate, as a percentage of the stock price on the date of grant |       | 0%                                                   |       | 0% |   |
| Assumed volatility                                                                       |       | 95% - 97%                                            |       | 107% - 128% |   |
| Expected forfeitures                                                                     |       | 10%                                                  |       | 10% |   |

 

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Stock-based compensation expense recognized on ourconsolidated statement of operations for the three months ended March 31, 2007and 2006 are as follows: 
| `                                                                         | ** ** | **Three months ended March 31,** | ** ** |
|---------------------------------------------------------------------------|------------|------------------------------------------------------|------------|
| ** **                                                                | ** ** | **2007**                                             | ** ** | **2006** | ** ** |
| Selling, general and  administrative                                      |       | $                                                    | 363,208    |   | $ | 371,346 |   |
| Research and  development                                                 |       | 217,049                                              |       | 274,372 |   |
| Total stock  compensation expense                                         |       | $                                                    | 580,257    |   | $ | 645,718 |   |
|                                                                      |       |                                                 |       |   |   |
| Components of stock  compensation expense:                                |       |                                                 |       |   |   |
| Amortization of  deferred compensation from restricted stock units (RSUs) |       | $                                                    | —     |   | $ | 645,718 |   |
| Compensation  expense related to other RSUs                               |       | 158,520                                              |       | — |   |
| Compensation  expense related to stock options                            |       | 421,737                                              |       | — |   |
| Total stock  compensation expense                                         |       | $                                                    | 580,257    |   | $ | 645,718 |   |

 

As of March 31, 2007, there was approximately$2,649,755 of unrecognized compensation cost, adjusted for estimatedforfeitures, related to unvested stock-based payments granted to our employeesand directors. Total unrecognized compensation cost will be adjusted for futurechanges in estimated forfeitures and recognized over the remaining vestingperiods of the stock option grants.

**Potential Delisting of the Company’s Stock**

On March 27, 2007, we received a letter from The Nasdaq Stock Marketindicating that for the last 30 consecutive business days, the bid price of ourcommon stock had closed below the minimum $1.00 per share requirement forcontinued inclusion on the Nasdaq Stock Market based on Marketplace Rule4310(c)(4).  In accordance withMarketplace Rule 4310(c)(8)(D), we have been provided 180 calendar days, oruntil September 24, 2007, to regain compliance. If at any time before September24, 2007 our common stock has a closing bid price of $1.00 or more for aminimum of 10 consecutive business days the Nasdaq Stock Market Staff willnotify us that we comply with rule 4310(c)(4). If we have not met the requirements of Rule 4310(c)(4) by September 24,2007 but meet any one of the three criteria as set forth in Marketplace Rule 4310(c),we will be granted an additional 180 calendar day compliance period to March21, 2008.

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**Item 2. Management’s Discussion andAnalysis of Financial Condition and Results of Operations**

**Note Regarding Forward Looking Statements:**

This Quarterly Report on Form 10-Q containsforward-looking statements concerning, among other things, our expected futurerevenues, operations and expenditures, and estimates of the potential marketsfor our products and services.  Such statements made may fall within themeaning of the Private Securities Litigation Reform Act of 1995, asamended.  All such forward-looking statements are necessarily onlyestimates of future results and the actual results we achieve may differmaterially from these projections due to a number of factors as discussed inthe section entitled “Risk Factors” of this Form 10-Q. New risks can arise andit is not possible for management to predict all such risks, nor can managementassess the impact of all such risks on our business or the extent to which anyfactor, or combination of factors, may cause actual results to differmaterially from those contained in any forward-looking statement.  Giventhese risks and uncertainties, investors should not place undue reliance onforward-looking statements as a prediction of actual results.  Allforward-looking statements speak only as of the date of this Quarterly Reporton Form 10-Q.  We undertake no obligation to revise or update publicly anyforward-looking statement in order to reflect any event or circumstance thatmay arise after the date of this Quarterly Report on Form 10-Q, other than asrequired by law.

**Critical Accounting Policies and Estimates**

The preparation of financial statements requiresmanagement to make estimates and judgments that may significantly affect thereported amounts of assets, liabilities, revenues, expenses and relateddisclosures. On an ongoing basis, management evaluates our estimates andassumptions including, but not limited to, those related to revenuerecognition, asset impairments, inventory valuation, warranty reserves andother assets and liabilities.  Management bases its estimates onhistorical experience and various other assumptions that it believes to bereasonable under the circumstances, the results of which form the basis formaking judgments about the carrying values of assets and liabilities that arenot readily apparent from other sources.  Actual results may differ fromthese estimates under different assumptions or conditions.

*Revenue Recognition*

Although we have shipped products and recordedcontract revenues, our operations have not yet reached a level that wouldqualify us to emerge from the development stage.  Therefore we continue tobe accounted for as a development stage company under Statement of Financial AccountingStandards No. 7 “Accounting and Reporting by Development Stage Enterprises.”

We recognize revenue in accordance with accountingprinciples generally accepted in the United States of America.  Generally,revenue is recognized on transfer of title, typically when products are shippedand all related costs are estimable.  For sales to distributors, we makean adjustment to defer revenue until our products are subsequently sold bydistributors to their customers.

*Research and Development Contract Revenue Recognized on thePercentage-of-Completion Method*

We recognize contract revenue using thepercentage-of-completion method, based primarily on contract costs incurred todate compared with total estimated contract costs.  Changes to totalestimated contract costs or losses, if any, are recognized in the period inwhich they are determined.  Revenues recognized in excess of amountsbilled are classified as current assets, and included in “Unbilled costs oncontracts in process” in our balance sheets.  Amounts billed to clients inexcess of revenues recognized to date are classified as current liabilitiesunder “Advance billings on contracts.”  Changes in project performance andconditions, estimated profitability, and final contract settlements may resultin future revisions to construction contract costs and revenue.

All of our research and development contracts aresubject to cost review by government agencies. Our reported results from thesecontracts could change adversely as a result of these reviews.

*Loss on Contract Commitments*

Each quarter, we perform an evaluation of expectedcosts to complete our in-progress contracts that we account for using thepercentage-of-completion method.  In the event that the total expectedcost to complete a contract exceeds the expected total 

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contractrevenue, we immediately record a loss on the contract to the extent that theexpected cost exceeds the expected revenue from the contract.

*Warranty Reserves*

Our warranties require us to repair or replacedefective products returned to us during the applicable warranty period at nocost to the customer. We record an estimate for warranty-related costs based onactual historical return rates, anticipated return rates and repair costs atthe time of sale. A significant increase in product return rates, or asignificant increase in the costs to repair products, could have an adverseimpact on future operating results for the period or periods in which suchreturns or additional costs materialize and thereafter.

*Income Taxes*

Deferred tax assets and liabilities are determinedbased on differences between the financial reporting and income tax basis ofassets and liabilities as well as net operating loss and tax creditcarryforwards, and are measured using the enacted tax rates and laws that willbe in effect when the differences reverse.  Deferred tax assets arereduced by a 100% valuation allowance to reflect the uncertainty associatedwith their ultimate realization.

Significant management judgment is required indetermining the provision for income taxes, the deferred tax assets andliabilities and any valuation allowance recorded against deferred taxassets.  The valuation allowance is based on our estimates of taxableincome and the period over which our deferred tax assets will be recoverable. In the event that actual results differ from these estimates or we adjustthese estimates in future periods, we may need to establish an additionalvaluation allowance or reduce our current valuation allowance, which couldmaterially impact our tax provision.

*Long-Lived Assets*

In accordance with Statement of Financial AccountingStandards No. 144 “Accounting for the Impairment or Disposal of Long-LivedAssets” long-lived assets we hold and use are reviewed to determine whether anyevents or changes in circumstances indicate that the carrying value of theasset may not be recoverable.  Theconditions to be considered include whether or not the asset is in service, hasbecome obsolete, is damaged, or whether external market circumstances indicatethat the carrying amount may not be recoverable.  When appropriate we recognize a loss for thedifference between the estimated fair value of the asset and the carryingamount.  The fair value of the asset ismeasured using either available market prices or estimated discounted cashflows.

*Sarbanes-Oxley Compliance*

Companies that are considered “accelerated filers” as defined in Exchange Act Rule 12b-2 were required to comply with theprovisions of Section 404 of the Sarbanes-Oxley Act of 2002 (SOX) as of thefirst fiscal year ending on or after November 15, 2004.  Non-acceleratedand foreign private issuers must comply with SOX by the first fiscal yearending on or after December 15, 2007.  We are a “small business issuer”and hence are considered to be a “non-accelerated filer.” We expect to complywith the requirements of Sarbanes-Oxley under the non-accelerated filer rulesduring this fiscal year.

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**Overview**

We design, develop, configure and expectto begin offering for sale, advanced products and services to support morereliable and cost-effective electricity grid operation. The focus of ourresearch and development has been to establish commercially viableflywheel-based energy storage technologies that can provide highly reliableenergy solutions for the worldwide electricity grid at competitive costs. Weexpect to generate revenues from the commercialization of our flywheel energystorage systems to supply frequency regulation services to the electricity gridin North America. We believe that as we expand our production capabilities wecan become a provider of frequency regulation services to grid operators on aglobal basis. In addition, we believe that as the commercialization of ourtechnologies continues we will develop other cost-effective applications forour flywheel systems that will provide additional revenue opportunities.

Ourinitial market focus will be on the geographic regions of the domestic gridthat have been deregulated. These regions and their Independent System Operator(ISO) designations are: New England (ISO New England); California (CaliforniaISO); Texas (ERCOT); New York (New York ISO); and the Mid-Atlantic (PJMInterconnect). These regional ISOs or grid operators purchase frequencyregulation services from independent providers in open bid markets that theymanage and maintain. We are seeking to become one such provider. We believe ourtechnology will offer grid operators the benefits of greater reliability;faster response time; cleaner operation, including zero direct emissions ofcarbon dioxide, nitrogen oxide, sulfur dioxide and mercury; and lowermaintenance costs compared to conventional power generation facilities thatalso provide frequency regulation services. We believe that we will have lower operating costs and faster responsetimes than the majority of other entities that provide frequency regulationservices, which we believe will allow us to have sufficient margins to make thecompany economically viable.

In North America, the frequency regulation market inareas that are deregulated and accessible via open-bid market mechanisms wasvalued at over $650 million in 2006. Based on global electrical production, webelieve that the worldwide frequency regulation market is several times thisamount. Significant growth in the US open-bid market is expected due to acombination of factors. Under the open-bid market, grid operators forecast theneed for frequency regulation as a percentage of expected power demand, andapproved suppliers submit bids for these services.

Tofully exploit this regulatory-driven open-bid market, we expect to design,build, own and operate a number of frequency regulation facilities. Ourbusiness model, which is a sale-of-services model, is similar to that ofindependent power producers who also design, build, own and operate their ownpower plants. Each Smart Energy MatrixTM frequency regulation facility will beup to 20 megawatts (MW) in size. A Smart Energy MatrixTM is a multi-flywheelenergy storage system designed to provide reliable and sustainable frequencyregulation services for electricity grids. A Smart Energy MatrixTM can be scaled to any size to provide one or moremegawatts of frequency regulation capacity. Smart Energy MatrixTM frequency regulation plants that are 20 MW or lessin size offer the advantage of being eligible to use fast-track interconnectionregulations that allow plants of this capacity or smaller to be approved morequickly in accordance with streamlined regulatory rules. A key benefit of ourbusiness model is that we begin to obtain revenues from the sale of servicesimmediately upon installation of each megawatt. Another key benefit of our business model is that we avoid the costs andlengthy procurement cycles typically associated with marketing capitalequipment to the utility sector.

Thekey qualification for our participation in these markets is the ability todemonstrate that our technology can provide the required services within therules determined by the grid operators. To attain this qualification and acceleratemarket entry we have installed two scale-power 100-kilowatt (kWh) demonstrationmodels of our Smart Energy MatrixTM for evaluation by grid operators. Each ofthese scale-power systems consists of multiple flywheels.  In 2005, we were awarded contracts for thesesystems by the California Energy Commission (CEC) and the New York State EnergyResearch and Development Authority (NYSERDA), in cooperation with the U.S.Department of Energy, to test the viability of our flywheel technologies forfrequency regulation by grid operators. During 2005, we shifted virtually allof our development spending towards meeting the requirements of these two pilotprograms.  The demonstration systems arescale-power prototypes of the Smart Energy Matrix TM multi-flywheel system.  An ancillary benefit of these contracts isthat the funds we received have subsidized a portion of our core research anddevelopment efforts, and any losses attributable to these contracts would havebeen costs incurred as part of our ongoing research and development efforts.

Boththe California and New York systems were installed and evaluated in formalfield trials. The demonstration units contain fully functional control,communication and interconnection elements similar or identical to the elementsof our planned 20 MW frequency regulation facilities. The purpose of thesepilot systems is twofold: 1) to demonstrate the ability of our flywheeltechnology to provide frequency regulation services consistent with thetechnical requirements of the grid operators, including the California ISO andNew York Independent System Operator (New York ISO), and 2) to obtaincertification or other approval from 

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systemoperators to use our technology to provide commercial frequency regulationservices in their respective states and territories.

TheCalifornia system completed its field trial on January 31, 2007, earning apositive evaluation from both the CEC and the California ISO.  The California ISO is a not-for-profitorganization that manages the flow of electricity for California’s open-marketpower grid. On December 26, 2006, the California ISO certified our flywheeltechnology for use as a frequency regulation resource in California.

The New Yorkdemonstration unit incorporates technology improvements from the California unit and contains additional voltagesupport and power quality capabilities. These added capabilities are designedto demonstrate the technical efficacy of two entirely new applications for ourcore technology.

On March 22, 2007,the New York State Energy Research and Development Authority (NYSERDA) and theU.S. DOE confirmed the successful outcome of field trial testing of ourscale-power flywheel frequency regulation system in New York. At the same time,the New York ISO determined that our technology is a viable technology forfrequency regulation on its grid and is acceptable for provision of commercialfrequency regulation in the State of New York. Our New York-based flywheelsystem field trial reached this significant milestone after the U.S. DOE(through Sandia National Laboratories, which co-monitored the demonstrationwith NYSERDA) concluded that the unit’s performance had been successfullydemonstrated and that additional testing was not required. The flywheel systemwill remain in place in Amsterdam, New York, to respond to any additionalcontrol methodology demonstration that may be requested by the New York ISOshould we decide to deploy on a commercial scale in the State of New York.

We must raiseadditional funds to execute our business plan. Although funding of approximately $10 million was raised in February2007, based on our current and forecasted rates of expenditure of cash, weestimate that we have sufficient cash to fund operations into approximately thefourth quarter of 2007. We need to obtain additional investments in 2007 and2008 to cover expenses related to continuing operations including ongoingresearch and development efforts, ramping up our manufacturing and assemblycapacity and designing and building frequency regulation facilities.

We are continuing to develop the Smart Energy 25flywheel, which is the core component of the Smart Energy MatrixTM flywheelsystem.  In order to complete development of the Smart Energy MatrixTMflywheel system, build, operate and receive fees for frequency regulationservices of at least one megawatt from a commercial sized flywheel-basedfrequency regulation system and have sufficient working capital to continue toexecute our business plan through 2007, we will need to raise approximately $20million of funding. Also, we will need to raise additional amounts to financethe additional frequency regulation facilities that are contemplated by ourbusiness plan.

As our business develops, we may from time to timeevaluate possible acquisitions of enterprises or technologies that we wouldconsider synergistic from a market, technology or product perspective.

From inception through March 31, 2007, we haveincurred losses of approximately $153.5 million. We expect to continue to incurlosses as we expand our product development and begin to increase ourmanufacturing and assembly capacity.

*Revenues*

Wewere awarded fixed price research and development contracts from governmentagencies and are pursuing similar contracts from other governmentagencies.  We have recognized revenues onour existing contracts using the percentage of completion method.  We are continuing to evaluate markets for ourflywheel systems but we have not recognized revenues from these products.  We have placed development prototypeflywheels with potential customers and shipped pre-production units.  These flywheel products were provided topotential customers without charge or on a demonstration basis to allow usaccess to field test information and to demonstrate the application of ourtechnologies.

*Cost of Goods Sold*

Cost of goods sold on fixed price research anddevelopment contracts are predominantly being recorded on the percentage ofcompletion method and consist of direct labor and material, subcontracting, andassociated overhead costs.

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*Selling, General and Administrative Expenses*

Oursales and marketing expenses consist primarily of compensation and benefits forsales and marketing personnel and related business development expenses. In 2006 we added a director of business development to investigate additionalapplications for our technologies.  We expect sales and marketing expensesto continue to increase as we expand efforts to define new markets for ourproducts.  We continue to rely on our engineering personnel to providetechnical specifications and product overviews to our potential customerbase.  General and administrative expenses consist primarily ofcompensation and benefits related to our corporate staff, professional fees,insurance and travel. We expect our selling, general and administrativeexpenses to increase slightly in 2007 over 2006 due primarily to theimplementation and reporting expenses associated with compliance with theinternal control provisions of the Sarbanes-Oxley Act of 2002, fundraisingactivities, and marketing, sales and business development expenses related tothe Smart Energy Matrix.

*Research and Development*

Our cost of research and development consistsprimarily of the cost of compensation and benefits for research and developmentand support staff, as well as materials and supplies used in the engineeringdesign and development process.  These costs are expected to increase in2007 as compared to 2006 as we complete the development and testing of theSmart Energy 25 flywheel and the design of the Smart Energy Matrix TM andfrequency regulation facility.

*Loss on Contract Commitments*

Wewill establish reserves for anticipated losses on contract commitments if,based on cost estimates to complete the commitment, we determine that a losswill be incurred. We evaluate our estimated costs to complete ourgovernment contracts on a quarterly basis, and establish or adjust our reserveswhen appropriate.  We are most likely torecognize probable losses on contract commitments early in a product’sintroduction prior to being able to realize expected decreases in cost per unitthrough engineering design changes, operating efficiencies, and volumepurchasing discounts. We recorded a $1.4 million charge in 2006 for anticipatedlosses on our research and development contracts.  No additional charges have been recordedduring the first quarter of 2007

*Depreciation and Amortization*

Ourdepreciation and amortization is primarily related to depreciation on capitalexpenditures and the amortization of lease and leasehold costs related to ourfacilities.  We have intellectualproperty in the form of patents on our flywheel vacuum system, our heat pipecooling systems, DC output paralleling, metal hub, low-loss motor, co-mingledrims and earthquake-tolerant bearings on our flywheel products, andanti-islanding software, drawings, source code, and production know-how on our Smart Power M5 inverter system, andexpect to obtain other patents during 2007 and beyond.  These costs were being amortized during 2004,but we recorded impairment charges to write down these assets to zero on thebalance sheet at December 31, 2004. These impairment charges were made due to the uncertainty of realizingany future value from this property mainly due the lack of substantial revenuesto date.  Accordingly, all costs incurredduring 2007 and 2006 related to the development of intellectual property havebeen expensed as incurred.

*Interest and Other Income/Expense, net*

Our non-operating income and expenses are primarilyattributable to interest income resulting from cash on hand and gains or losseson the sale of our impaired assets.

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**Results of Operations**

*Comparison of Three Months ended March 31, 2007 and 2006*
|                                           | ** ** | **Three months ended March 31,** | ** ** |
|-------------------------------------------|------------|------------------------------------------------------|------------|
| ** **                                | ** ** | **2007**                                             | ** ** | **2006** | ** ** | **$ Change** | ** ** | **% Change** | ** ** |
| ** **                                | ** ** | **(in thousands)**                              | ** ** |
| Revenue                                   |       | $                                                    | 393        |   | $ | 289 |   | $ | 104 |   | 36 | % |
| Cost of goods  sold                       |       | 393                                                  |       | 245 |   | 148 |   | 60 | % |
| Gross margin                              |       | —                                               |       | 44 |   | (44 | ) | 100 | % |
| Selling, general  and administrative      |       | 1,414                                                |       | 1,930 |   | (516 | ) | 27 | % |
| Research and  development                 |       | 1,660                                                |       | 1,062 |   | 598 |   | 56 | % |
| Depreciation and  amortization            |       | 26                                                   |       | 21 |   | 5 |   | 24 | % |
| Casualty loss                             |       | 108                                                  |       | — |   | 108 |   | 0 | % |
| Interest and  other income (expense), net |       | 118                                                  |       | 147 |   | (29 | ) | 20 | % |
| Net loss                                  |       | $                                                    | (3,090     | ) | $ | (2,822 | ) | $ | (268 | ) | 9 | % |

 

*Revenue*

The following table provides details of our revenuesfor the three months ended March 31, 2007 and 2006.
|                                | ** ** | **Percent**                          | ** ** | **Three months ended  March 31,** | ** ** | **Cumulative  Contract  Value** | ** ** | **Total  Contract** | ** ** |
|--------------------------------|------------|--------------------------------------|------------|--------------------------------------------------|------------|---------------------------------|------------|---------------------|------------|
| ** **                     | ** ** | **complete**                         | ** ** | **2007**                                         | ** ** | **2006**                        | ** ** | **Earned**          | ** ** | **Value** | ** ** |
| ** **                     | ** ** | **(dollars in thousands)** | ** ** |
| CEC                            |       | 95                                   | %          | $                                                | 21         |                            | $          | 24                  |       | $ | 1,176 |   | $ | 1,233 |   |
|                           |       |                                 |       |                                             |       |                            |       |                |       |   |   |
| NYSERDA PON 846                |       | 95                                   | %          | 47                                               |       | 178                             |       | 612                 |       | 646 |   |
|                           |       |                                 |       |                                             |       |                            |       |                |       |   |   |
| NYSERDA PON 800                |       | 90                                   | %          | 4                                                |       | 16                              |       | 57                  |       | 63 |   |
|                           |       |                                 |       |                                             |       |                            |       |                |       |   |   |
| Air Force  Research Laboratory |       | 60                                   | %          | 191                                              |       | 24                              |       | 453                 |       | 750 |   |
|                           |       |                                 |       |                                             |       |                            |       |                |       |   |   |
| Sandia DOE  Earmark            |       | 27                                   | %          | 131                                              |       | —                          |       | 206                 |       | 752 |   |
|                           |       |                                 |       |                                             |       |                            |       |                |       |   |   |
| Total Contract Revenue         |       |                                 |       | $                                                | 394        |                            | $          | 242                 |       | $ | 2,504 |   | $ | 3,444 |   |
|                           |       |                                 |       |                                             |       |                            |       |                |       |   |   |
| M5 and  accessories            |       |                                 |       | (1                                               | )          | 47                              |       |                |       |   |   |
|                           |       |                                 |       |                                             |       |                            |       |                |       |   |   |
| Total                          |       |                                 |       | $                                                | 393        |                            | $          | 289                 |       | $ | 2,504 |   | $ | 3,444 |   |

 

In the three months ended March 31, 2007, we recordedrevenue from flywheel-related research and development contracts calculatedusing the percentage of completion method of approximately $394,000.  Inthe same period for 2006, we recorded research and development contract revenueof approximately $242,000 and approximately $47,000 from the sale of our SmartPower M5TM inverter systems and related solar products.  Contract revenuewas higher for the first quarter of 2007 compared to the first quarter of 2006by approximately $152,000 or 63%. Contract revenue during the first quarter of 2007 was lower on the CECand NYSERDA contracts than during the first quarter of 2006 by approximately$134,000, since the majority of the milestones on those contracts had beenreached in earlier periods.  However,this decrease and the decrease in inverter revenue of approximately $48,000were more than offset by revenue increases on our Air Force Research Laboratorycontract of approximately $167,000 and additional revenue of approximately$131,000 on the Sandia DOE Contract which was awarded to us during the thirdquarter of fiscal 2006.

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*Cost of Goods Sold*

Cost of goods sold for the three months ending March31, 2007 includes costs incurred in performance of our research and developmentcontracts calculated using the percentage of completion method in the amount ofapproximately $393,000.  In 2006, cost of goods sold included costs forour flywheel development contracts in the amount of approximately $242,000, andmaterials, labor and warranty accruals for shipments of our Smart Power M5TMinverter products sold in the three month period of approximately $4,000.

*Selling, General and Administrative Expense*

|                                    | ** ** | **Amount**              | ** ** |
|------------------------------------|------------|-------------------------|------------|
| ** **                         | ** ** | **(in thousands)** | ** ** |
| Three months  ended March 31, 2006 |       | $                       | 1,930      |   |
| Reductions:                        |       |                    |       |
| Stock compensation expense         |       | (184                    | )          |
| Legal and professional fees        |       | (130                    | )          |
| Public company expenses            |       | (95                     | )          |
| Audit fees                         |       | (65                     | )          |
| Office equipment upgrades          |       | (27                     | )          |
| Other                              |       | (33                     | )          |
|                               |       |                    |       |
| Increases:                         |       |                    |       |
| Subcontractors and consultants     |       | 18                      |       |
| Three months ended  March 31, 2007 |       | $                       | 1,414      |   |

 

Selling, general and administrative expenses totaledapproximately $1,414,000 and $1,930,000 for the three months ended March 31,2007 and 2006, respectively. The reduction of approximately $516,000 or 27% wasprimarily the result of lower stock compensation of approximately $184,000mainly due to a decrease in our stock market price, lower legal andprofessional fees of approximately $130,000, a reduction in public companyexpenses of approximately $95,000, a reduction in audit fees of approximately$65,000, a reduction in the amount spent on office equipment upgrades ofapproximately $27,000, and other various items of approximately $33,000. Thesedecreases were offset by an increase in the use of subcontractors andconsultants of $18,000. We expect our selling, general and administrative expensesto be somewhat higher in 2007 than 2006 due primarily to implementation andreporting expenses associated with compliance with the Sarbanes-Oxley Act of2002, increases in staffing needed to support our transition to a productionfacility, increased marketing and sales expenses associated with flywheelproducts and fund-raising efforts.

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*Research and Development Expense*

|                                    | ** ** | **Amount**              | ** ** |
|------------------------------------|------------|-------------------------|------------|
| ** **                         | ** ** | **(in thousands)** | ** ** |
| Three months  ended March 31, 2006 |       | $                       | 1,061      |   |
| Increases:                         |       |                    |       |
| Expense materials                  |       | 186                     |       |
| Salaries and benefits              |       | 427                     |       |
| Consultants and subcontractors     |       | 69                      |       |
| Facility costs                     |       | 16                      |       |
| Travel                             |       | 16                      |       |
|                               |       |                    |       |
| Decreases:                         |       |                    |       |
| Stock compensation expense         |       | (37                     | )          |
| Hiring expenses                    |       | (22                     | )          |
| Software maintenance               |       | (44                     | )          |
| Other                              |       | (12                     | )          |
| Three months ended  March 31, 2007 |       | $                       | 1,660      |   |

 

For the three months ended March 31, 2007, researchand development expense increased by approximately $599,000 or 57%, incomparison to the equivalent period in 2006. This increase is primarily due to increased expenses for developmentmaterials of approximately $186,000, increased headcount related expensesresulting from hiring of engineering personnel to support our flywheeldevelopment of approximately $427,000, increased usage of consultants of approximately$69,000 and increase facility and travel costs of approximately $16,000each.  These increases were partially offsetby reductions in stock compensation expense of approximately $37,000, lowerhiring expenses of approximately $22,000, lower software maintenances costs ofapproximately $44,000 and reductions in other expenses of approximately$12,000.  We expect research and development costs to increasesubstantially in 2007 over 2006 levels due to increased headcount anddevelopment material to support the 25kWh flywheel development and developmentof the Smart Energy Matrix.

*Loss on Contract Commitments*

Werecorded contract commitment losses on our research and development contractsin 2005 of $1,535,000 based on expected cost overruns related to material,labor and overhead, as well as unplanned overruns in the amount of laborrequired to complete the contracts.  During2006, we recorded additional charges totaling approximately $1,385,000 to thecontract loss reserve.  This amountconsists of our expected cost share for the Sandia contract of approximately$240,000; increases in estimated material, labor, and travel costs expected tobe needed to complete other existing contracts of approximately $314,000;increases in the labor and overhead rates applied to the contracts based onactual costs of approximately $786,000, and other costs of $45,000.  Based on our assessments of the estimatedcosts to complete our contracts as of March 31, 2007, no additional charges tothe contract loss reserve were required

*Depreciation and Amortization*

The increase in depreciation expense for the firstthree months of 2007 as compared to the first three months of 2006 ofapproximately $5,000, or 22%, is primarily attributable to depreciation on newassets acquired during 2006.  We expect depreciation during the remainderof 2007 to be higher than 2006 due to capital expenditures relating to theincrease of production capacity in manufacturing.

*Interest and Other Income/(Expense), net*

The decrease in interest income for the first threemonths of 2007 as compared to the same period during 2006 of approximately$29,000, or 20%, is primarily attributable to lower cash balances available forinvesting during the first half of the first quarter of the current fiscalyear. Cash available for investing increased by approximately $10 millionduring mid-February 

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2007 asa result of our sale of stock.  This decrease was partially offset by again on the sale of fully depreciated fixed assets of approximately $4,000.

*Net Loss*

As a result of the changes discussed above, the netloss for the three months ended March 31, 2007 was approximately $3,090,000which compares to a net loss during the same period in 2006 of approximately$2,822,000, an increase in net loss of approximately $268,000 or 9%.

**Liquidity and Capital Resources**
|                                            | ** ** | **Three months ended March 31,** | ** ** |
|--------------------------------------------|------------|------------------------------------------------------|------------|
| ** **                                 | ** ** | **2007**                                             | ** ** | **2006** | ** ** |
| ** **                                 | ** ** | **(in thousands)**                              | ** ** |
| Cash and cash  equivalents                 |       | $                                                    | 12,136     |   | $ | 12,546 |   |
| Working capital                            |       | $                                                    | 10,506     |   | $ | 11,225 |   |
| Cash provided by  (used in)                |       |                                                 |       |   |   |
| Operating activities                       |       | $                                                    | (2,791     | ) | $ | (1,344 | ) |
| Investing activities                       |       | (41                                                  | )          | — |   |
| Financing activities                       |       | 9,717                                                |       | — |   |
| Net decrease in  cash and cash equivalents |       | $                                                    | 6,885      |   | $ | (1,344 | ) |
| Current ratio                              |       | 5.0                                                  |       | 5.7 |   |

 

Ourcash requirements depend on many factors including, but not limited to,research and development activities, continued efforts to commercialize ourproducts, facility costs as well as general and administrative expenses.  Since we are still in the development stageand have not yet begun our expected principal operations, we do not generateenough cash from operations to satisfy our working capital requirements.  We expect to make significant expenditures tofund our operations, develop technologies and explore opportunities to find anddevelop additional markets to sell our products. In previous years, we tooksignificant actions to reduce our cash expenditures for product development,infrastructure and production readiness by significantly reducing headcount,development spending and capital expenditures. However, as we near completionof development of the Smart Energy MatrixTM and prepare to begin commercialactivity aimed at revenue generation in 2008, we have begun to increase ourheadcount, and have spent additional funds on development materials, capitalequipment and market analyses to understand the size of markets, competitiveaspects and advantages that our products could provide.   We expect to use more cash resources during2007 as we continue to work on our government research and developmentcontracts and develop the capacity to manufacture our Smart Energy 25 flywheelsin anticipation of putting a frequency regulation facility into service duringthe second quarter of 2008.

We must raiseadditional equity to execute our business plan. Based on our current and forecasted rates of expenditure of cash, wehave sufficient cash to fund operations into approximately the fourth quarterof 2007. We need to obtain additional investments during 2007 and 2008 to fund:

·                  Our continuationas a going concern

·                  Ongoing researchand development of the Smart Energy 25 flywheel and the Smart Energy MatrixTMmulti-flywheel system

·                  The ramp up ofour manufacturing and assembly capacity

·                  The build-out offacilities to provide frequency regulation services to the electricity grid

·                  Working capitalrequirements; and

·                  Theidentification and development of new business opportunities.

We are continuing to develop the Smart Energy 25flywheel, which is the core component of the Smart Energy MatrixTM flywheelsystem.  In order to complete development of the Smart Energy MatrixTMflywheel system, build, operate and receive fees 

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forfrequency regulation services of at least one megawatt from our flywheel-basedcommercial frequency regulation system and have sufficient working capital tocontinue to execute our business plan through 2007, in addition to the $10.6million transaction in February, we will need to raise approximately $20million of funding during the remainder of 2007.  Also, beginning in 2008 we will need to raiseadditional amounts beyond the foregoing $20 million to finance the variousadditional frequency regulation facilities that are contemplated by ourbusiness plan.

**Operating Activities**

Net cash used in operating activities wasapproximately $2,791,000 and $1,344,000 for the three months ended March 31,2006 and 2007, respectively.  The primary component to the negative cashflow from operations is from net losses.  For the three months endingMarch 31, 2007, we had a net loss of approximately $3,090,000.  Adjustmentsto reconcile net loss to cash flow in 2007 include non-cash stock compensationof approximately $580,000, depreciation and amortization of approximately$26,000, and a net reduction in the asset impairment reserve of approximately$7,000, offset by a gain on the sale of fixed assets of approximately $4,000,facility-related cash payments charged against restructuring reserves ofapproximately $91,000 and changes in operating assets and liabilities ofapproximately $219,000.  During the same period in 2006, we had a net lossof approximately $2,822,000.  Adjustments to reconcile net loss to cashflow include non-cash stock compensation of approximately $802,000,facility-related cash payments charged against restructuring reserves ofapproximately $91,000, and depreciation and amortization of approximately$21,000.  Changes in the operating assets and liabilities generatedapproximately $746,000 of cash during the first three months of 2006.

**Investing Activities**

Net cash used in investing activities wasapproximately $42,000 for the three months ending March 31, 2007.  There was no cash used in investingactivities during the first quarter of 2006.  The principal use of cash in2007 was the purchase of property and equipment in the amount of approximately$46,000, offset by the sale of property and equipment of approximately $4,000.

**Financing Activities**

Net cash provided by financing activities wasapproximately $9,717,000 for the first three months of 2007. There was no cashused in investing activities during the first quarter of 2006.  For 2007,we raised approximately $9,717,000 from the sale of stock from our shelfregistration.

As part of our new business development, we mayevaluate possible acquisitions of enterprises or technologies that we considersynergistic from a market, technology or product perspective. We may makeinvestments in companies for strategic business reasons.  Because ourprimary motivation in making these investments may not be to realize a profiton the investment itself, but rather to expand our business prospects, theseinvestments may lack any financial return to the Company, may result in a lossof principal and may lack liquidity.

**Item 3.  Quantitative andQualitative Disclosure About Market Risk**

Our cash equivalents, which have maturities of lessthan three months, may expose our assets to interest rate risk.  At March31, 2007, we had approximately $109,000 of cash equivalents that were held innon-interest bearing accounts.  Also at March 31, 2007, we had approximately$338,000 of cash equivalents that were held in interest bearing checkingaccounts, and approximately $11,689,000 invested in interest-bearing moneymarket accounts at high-quality financial institutions, some of which areinvested in off-shore securities.  Thefair value of these investments approximates their cost. The funds invested inmoney market accounts may not be covered under FDIC Insurance, and thereforemay be some risk of loss, which we deem to be low.

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**Item 4T.  Controls andProcedures**

Our management, with the participation of ourprincipal executive officer and principal financial officer, has evaluated theeffectiveness of our disclosure controls and procedures (as defined in Rule13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended)as of the end of the period covered by this Quarterly Report on Form10-Q.  Based on that evaluation, the principal executive officer andprincipal financial officer have concluded that our disclosure controls andprocedures are effective in enabling us to record, process, summarize andreport information required to be included in our periodic SEC filings withinthe required time period.  Management recognizes that any controls andprocedures, no matter how well designed and operated, can provide onlyreasonable assurance of achieving their objectives, and management necessarilyapplies its judgment in evaluating the cost-benefit relationship of possiblecontrols and procedures. Based on the evaluation of our disclosure controls andprocedures as of March 31, 2007, our principal executive officer and principalfinancial officer concluded that, as of such date, our disclosure controls andprocedures were effective at the reasonable assurance level.

In addition, our management, with the participation ofour principal executive officer and principal financial officer, has evaluatedwhether any change in our internal control over financial reporting (as definedin Rule 13a-15(f) under the Securities Exchange Act of 1934) occurred duringthe period covered by this Quarterly Report on Form 10-Q.  Based on thatevaluation, the principal executive officer and principal financial officerhave concluded that there has been no change in our internal control overfinancial reporting during the period covered by this Quarterly Report on Form10-Q that has materially affected, or is reasonably likely to materiallyaffect, our internal control over financial reporting.

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**Part II— OTHER INFORMATION**

**Item 1.  Legal Proceedings**

None.

**Item 1A.  Risk Factors**

There have not been any material changes during thequarter ended March 31, 2007 to the risk factors set forth in Part I, Item IAof our Annual Report on Form 10-K for the year ended December 31, 2006 andfiled with the SEC on March 30, 2007.

**Item 2.  Unregistered Sales ofEquity Securities and Use of Proceeds**

None.

**Item 3.  Defaults Upon SeniorSecurities**

None.

**Item 4.  Submission of Mattersto a Vote of Security Holders**

None.

**Item 5.  Other Information**

None.

25

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**Item 6.  Exhibits**
| Exhibit  Number | ** ** | **Ref** | ** ** | **Description of Document**                                                                                                                      |
|-----------------|------------|---------|------------|--------------------------------------------------------------------------------------------------------------------------------------------------|
|            |       |    |       |                                                                                                                                             |
| 1.1             |       | (5)     |       | Free Writing Prospectus – Form of Investor Purchase  Agreement.                                                                             |
|            |       |    |       |                                                                                                                                             |
| 1.2             |       | (6)     |       | Prospectus Supplement to Prospectus dated December  14, 2006.                                                                                    |
|            |       |    |       |                                                                                                                                             |
| 3.1             |       | (1)     |       | Sixth Amended and Restated Certificate of Incorporation.                                                                                         |
|            |       |    |       |                                                                                                                                             |
| 3.2             |       | +       |       | Amended and Restated Bylaws, as amended.                                                                                                         |
|            |       |    |       |                                                                                                                                             |
| 3.3             |       | (2)     |       | Certificate of Designation of Series A Junior  Participating Preferred Stock, filed with The Secretary of State of Delaware  on October 4, 2002. |
|            |       |    |       |                                                                                                                                             |
| 4.1             |       | (3)     |       | Form of specimen stock certificate.                                                                                                              |
|            |       |    |       |                                                                                                                                             |
| 10.1            |       | (7)     |       | Placement Agency agreement with Merriman Curhan  & Company.                                                                                  |
|            |       |    |       |                                                                                                                                             |
| 10.2            |       | (4)     |       | Employment agreement dated March 2, 2007 between the  Company and F. William Capp                                                                |
|            |       |    |       |                                                                                                                                             |
| 10.3            |       | (4)     |       | Employment agreement dated March 2, 2007 between the  Company and James M. Spiezio                                                               |
|            |       |    |       |                                                                                                                                             |
| 10.4            |       | (4)     |       | Employment agreement dated March 2, 2007 between the  Company and Matthew L. Lazarewicz                                                          |
|            |       |    |       |                                                                                                                                             |
| 10.5            |       | (4)     |       | Restricted Stock Unit and Option Agreement dated  March 2, 2007 between the Company and F. William Capp.                                         |
|            |       |    |       |                                                                                                                                             |
| 10.6            |       | (4)     |       | Restricted Stock Unit and Option Agreement dated  March 2, 2007 between the Company and James M. Spiezio.                                        |
|            |       |    |       |                                                                                                                                             |
| 10.7            |       | (4)     |       | Restricted Stock Unit and Option Agreement dated  March 2, 2007 between the Company and Matthew L. Lazarewicz.                                   |
|            |       |    |       |                                                                                                                                             |
| 10.8            |       | (4)     |       | Option Agreement dated March 2, 2007 between the  Company and F. William Capp.                                                                   |
|            |       |    |       |                                                                                                                                             |
| 10.9            |       | (4)     |       | Option Agreement dated March 2, 2007 between the  Company and James M. Spiezio.                                                                  |
|            |       |    |       |                                                                                                                                             |
| 10.10           |       | (4)     |       | Option Agreement dated March 2, 2007 between the  Company and Matthew L. Lazarewicz.                                                             |
|            |       |    |       |                                                                                                                                             |
| 31.1            |       | +       |       | Certification of Principal Executive Officer  pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.                                         |
|            |       |    |       |                                                                                                                                             |
| 31.2            |       | +       |       | Certification of Principal Financial and Accounting  Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.                          |

 

26

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| 32.1   |   | +      |   | Certification of Principal Executive Officer  pursuant to 18 U.S.C. Section 1350 as adopted pursuant to Section 906 of the  Sarbanes-Oxley Act of 2002. |
|--------|--------|--------|--------|---------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |   |   |                                                                                                                                                    |
| 32.2   |   | +      |   | Certification of Principal Financial Officer  pursuant to 18 U.S.C. Section 1350 as adopted pursuant to Section 906 of the  Sarbanes-Oxley Act of 2002. |

 

----

(1)                      Incorporatedby reference from the Form S-1 filed on November 16, 2000 (File No. 333-43886).

(2)                      Incorporatedby reference from the Form 10-K filed on March 30, 2007 (File No. 000-31973).

(3)                      Incorporatedby reference from the Form S-3 filed on December 8, 2005 (File No. 333-130207).

(4)                      Incorporatedby reference from the Form 8-K filed on March 7, 2007 (File No. 000-31973).

(5)       Incorporated by reference from the FormFWP filed on February 12, 1007 (File No. 333-137071).

(6)       Incorporated by reference from the Form424B5 filed on February 13, 2007 (File No. 333-137071).

(7)                      Incorporatedby reference from the Form 8-K filed on February 13, 2007 (File No. 000-31973).

 +                          Filedherewith.

27

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**SIGNATURES**

Pursuantto the requirements of the Securities Exchange Act of 1934, the Registrant hasduly caused this report to be signed on its behalf by the undersigned thereuntoduly authorized.
|                                                                                                                                                                                                                                                                                                                                                                                             | BEACON POWER CORPORATION                            |
|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|-----------------------------------------------------|
|                                                                                                                                                                                                                                                                                                                                                                                        |                                                |   |
|                                                    Date:    May 3, 2007                                                 | By:                                                 | /s/ F. William Capp |
|                                                                                                                                                                                                                                                                                                                                                                                        | F. William Capp                                     |   |
|                                                                                                                                                                                                                                                                                                                                                                                        | President and Chief Executive Officer               |
|                                                                                                                                                                                                                                                                                                                                                                                        |                                                |   |
|                                                                May 3, 2007 | By:                                                 | /s/ James M. Spiezio |
|                                                                                                                                                                                                                                                                                                                                                                                        | James M. Spiezio                                    |   |
|                                                                                                                                                                                                                                                                                                                                                                                        | Vice President of Finance, Chief Financial Officer, |
|                                                                                                                                                                                                                                                                                                                                                                                        | Treasurer and Secretary                             |
|                                                                                                                                                                                                                                                                                                                                                                                        | Principal Financial Officer                         |
|                                                                                                                                                                                                                                                                                                                                                                                             |                                                     |  |  |

 

28

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