UNITED STATES
                       SECURITIES AND EXCHANGE COMMISSION
                             Washington, D.C. 20549


                                    FORM 10-Q


[ X ] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934 for the quarterly period ended September 30, 2005

                                       or

[ ] Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934 (For the transition period from ___ to ___ ).

                        Commission File Number: 001-16171

                            Beacon Power 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) has filed all reports required
to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes _X_ No ___

Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act.) Yes ____  No __X__

Indicate by check mark whether the registrant is a shell company (as defined
in rule 12-b2 of the Exchange Act.) Yes ____  No __X__


The number of shares of the Registrant's common stock, par value $.01 per share,
outstanding as of November 10, 2005 was 59,966,193.

<PAGE>

                    BEACON POWER CORPORATION AND SUBSIDIARIES
                          (A Development Stage Company)
                                Table of Contents

<TABLE>
<CAPTION>

                                                                                                    Page

PART I.  Financial Information

 Item 1.  Financial Statements.

<S>                                                                                               <C>
 Consolidated Balance Sheets at September 30, 2005 (unaudited) and December 31, 2004 (audited).         1

  Unaudited Consolidated Statements of Operations for the three months
      ended September 30, 2005 and 2004, the nine months ended September
      30, 2005 and 2004 and for the period from May 8, 1997 (date of
      inception) to September 30, 2005. 2

  Unaudited Consolidated Statements of Cash Flows for nine months ended September 30, 2005
       and 2004 and for the period from May 8, 1997 (date of inception) to September 30, 2005.          3

         Notes to Unaudited Consolidated Financial Statements.                                       5-11

     Item 2.  Management's Discussion and Analysis of Financial Condition and
           Results of Operations.                                                                   11-31

       Item 3. Quantitative and Qualitative Disclosures about Market Risk.                             32

       Item 4.  Controls and Procedures.                                                               32

PART II.  Other Information

     Item 1.  Legal Proceedings.                                                                       33
     Item 2.  Unregistered Sales of Equity Securities and Use of Proceeds.                             33
     Item 3.  Defaults Upon Senior Securities.                                                         33
     Item 4.  Submission of Matters to a Vote of Security Holders.                                     33
     Item 5.  Other Information.                                                                       33
     Item 6.  Exhibits.                                                                                34

Signatures                                                                                             37
</TABLE>


<PAGE>



                    BEACON POWER CORPORATION AND SUBSIDIARIES
                          (A Development Stage Company)
                           Consolidated Balance Sheets


<TABLE>
<CAPTION>
                                                                      September 30,    December 31,
                                                                    2005 (unaudited)       2004
                                                                   -----------------  ---------------
Assets
Current assets:
<S>                                                                   <C>              <C>
      Cash and cash equivalents ...................................   $   3,384,515    $   5,097,188
      Accounts receivable, trade, net .............................         144,496           52,105
      Inventory ...................................................            --            222,593
      Unbilled costs on government contracts ......................         600,625             --
      Prepaid expenses and other current assets ...................         257,138          817,396
                                                                      -------------    -------------
        Total current assets ......................................       4,386,774        6,189,282

Property and equipment, net .......................................         231,846          258,647
Restricted cash ...................................................         219,568          310,011
Investments .......................................................       1,000,000             --
Other assets and prepaid financing costs ..........................            --            327,646
                                                                      -------------    -------------
Total assets ......................................................   $   5,838,188    $   7,085,586
                                                                      =============    =============

Liabilities and Stockholders' Equity
Current liabilities:
      Accounts payable ............................................   $     119,820    $     389,189
      Accrued compensation and benefits ...........................         190,375          130,609
      Other accrued expenses ......................................         654,765          393,569
      Accrued contract loss .......................................         299,235             --
      Restructuring reserve .......................................         804,984        1,062,644
                                                                      -------------    -------------
         Total current liabilities ................................       2,069,179        1,976,011
                                                                      -------------    -------------

Commitments (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;
      49,853,157 and 43,788,810 shares issued and outstanding at
      September 30, 2005 and December 31, 2004, respectively ......         498,532          437,888
      Deferred stock compensation .................................         (24,565)        (707,167)
      Additional paid-in-capital ..................................     138,901,286      134,411,911
      Deficit accumulated during the development stage ............    (135,086,620)    (128,933,397)
      Treasury stock, 356,559 shares at cost ......................        (519,624)         (99,660)
                                                                      -------------    -------------
         Total stockholders' equity ...............................       3,769,009        5,109,575
                                                                      -------------    -------------
Total liabilities and stockholders' equity ........................   $   5,838,188    $   7,085,586
                                                                      =============    =============
</TABLE>

         See notes to unaudited consolidated financial statements.


<PAGE>


                    BEACON POWER CORPORATION AND SUBSIDIARIES
                          (A Development Stage Company)
                Consolidated Statements of Operations (Unaudited)

<TABLE>
<CAPTION>
                                                                                                                  Cumulative from
                                                                                                                    May 8, 1997
                                                                                                                (date of inception)
                                              Three months ended September 30, Nine months ended September 30, through September 30,
                                                    2005              2004            2005             2004             2005
                                               -------------    -------------    -------------    -------------    -------------
<S>                                            <C>              <C>              <C>              <C>              <C>
Revenue ....................................   $     304,064    $      80,902    $   1,258,503    $     264,793    $   2,134,381
Cost of goods sold .........................         347,554          979,704        1,352,018        1,363,570        2,809,887
                                               -------------    -------------    -------------    -------------    -------------
Gross profit ...............................         (43,490)        (898,802)         (93,515)      (1,098,777)        (675,506)

Operating expenses:

      Selling, general and administrative ..       1,849,322        1,033,406        4,130,271        3,328,117       36,386,245
      Research and development .............         357,703          779,179          994,234        2,742,665       54,869,779
      Loss on sales and contract commitments            --               --          1,056,566             --          1,432,540
      Depreciation and amortization ........          20,994           40,395           62,103          130,180        4,200,069
      Restructuring charges ................            --               --               --               --          2,159,280
      Loss on impairment of assets .........            --               --               --               --          4,663,916
                                               -------------    -------------    -------------    -------------    -------------
           Total operating expenses ........       2,228,019        1,852,980        6,243,174        6,200,962      103,711,829
                                               -------------    -------------    -------------    -------------    -------------
Loss from operations .......................      (2,271,509)      (2,751,782)      (6,336,689)      (7,299,739)    (104,387,335)

Other income (expense):

Interest income ............................          27,423           16,962           59,433           88,792        3,942,308
Interest expense ...........................            --               --               --               --         (1,093,703)
Gain on sale of investment .................            --               --               --               --          3,562,582
Other income (expense) .....................         100,644          880,025          124,033          941,219         (104,278)
                                               -------------    -------------    -------------    -------------    -------------
      Total other income (expense), net ....         128,067          896,987          183,466        1,030,011        6,306,909
                                               -------------    -------------    -------------    -------------    -------------
Net loss ...................................      (2,143,442)      (1,854,795)      (6,153,223)      (6,269,728)     (98,080,426)

Preferred stock dividends ..................            --               --               --               --        (36,825,680)
Accretion of convertible preferred stock ...            --               --               --               --           (113,014)
                                               -------------    -------------    -------------    -------------    -------------
Loss to common shareholders ................   $  (2,143,442)   $  (1,854,795)   $  (6,153,223)   $  (6,269,728)   $(135,019,120)
                                               =============    =============    =============    =============    =============
Loss per share, basic and diluted ..........   $       (0.04)   $       (0.04)   $       (0.13)   $       (0.14)
                                               =============    =============    =============    =============
Weighted-average common shares outstanding .      48,524,912       43,538,541       45,634,899       43,312,183
                                               =============    =============    =============    =============
</TABLE>

        See notes to unaudited consolidated financial statements.


<PAGE>



                    BEACON POWER CORPORATION AND SUBSIDIARIES
                          (A Development Stage Company)
                Consolidated Statements of Cash Flows (Unaudited)
<TABLE>
<CAPTION>

                                                                                              Cumulative from
                                                                                                  May 8, 1997
                                                                                             (date of inception)
                                                              Nine months ended September 30, through September
                                                                   2005            2004           30, 2005
                                                              --------------- -------------- ----------------
Cash flows from operating activities:
<S>                                                            <C>             <C>             <C>
      Net loss .............................................   $ (6,153,223)   $ (6,269,728)   $(98,080,426)
      Adjustments to reconcile net loss to net cash used in
      operating activities:
         Depreciation and amortization .....................         62,103         130,179       4,200,070
         Loss on sale of fixed assets ......................         87,365            --           283,534
         Impairment of assets ..............................       (111,754)         (9,703)      4,542,459
         Restricted cash ...................................         90,443          45,221        (219,568)
         (Expenses paid) restructuring charge ..............       (257,660)       (257,660)        804,984
         Reserve for officers note .........................       (102,044)           --              --
         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 .......        621,153         697,363       2,612,011
         Options and warrants issued for consulting services           --              --         1,585,654
         Services and interest expense paid in preferred
         stock .............................................           --              --            11,485
         Non cash dividend received ........................           --           (90,351)           --
         Gain on sale of investments .......................           --          (880,025)     (3,562,582)
      Changes in operating assets and liabilities:
         Accounts receivable ...............................        (92,391)        123,772        (144,496)
         Inventory .........................................        222,593          12,485            --
         Unbilled costs under government contracts .........       (600,625)           --          (600,625)
         Prepaid expenses and other current assets .........        561,758         334,537        (457,342)
         Accounts payable ..................................       (269,369)        (97,684)        119,820
         Accrued compensation and benefits .................         59,766          27,807         190,375
         Accrued interest ..................................           --              --           275,560
         Dividend receivable ...............................           --            63,758            --
         Accrued contract loss .............................        299,235            --           299,235
         Other accrued expenses and current liabilities ....        261,196         340,026         663,435
                                                               ------------    ------------    ------------
           Net cash used in operating activities ...........     (5,321,454)     (5,830,003)    (85,294,882)

Cash flows from investing activities:
      Purchase of investments ..............................     (1,000,000)           --        (2,190,352)
      Sale of investments ..................................           --         1,413,607       4,752,934
      Increase in other assets .............................           --              --          (412,072)
      Purchases of property and equipment ..................        (39,713)        (30,845)     (8,492,266)
      Sale of property and equipment .......................         28,800          17,875         100,040
                                                               ------------    ------------    ------------
         Net cash used in investing activities .............     (1,010,913)      1,400,637      (6,241,716)

Cash flows from financing activities:
      Initial public stock offering, net of expenses .......           --              --        49,341,537
      Payment of dividends .................................           --              --        (1,159,373)
      Shares issued under employee stock purchase plan .....          1,738           2,276         129,888
      Exercise of employee stock options ...................        656,159          26,700       2,092,426
      Cash paid for financing costs ........................        327,646            --              --
      Issuance of preferred stock ..........................           --              --        32,868,028
      Stock issued for cash ................................      3,953,571            --         3,953,571
      Repurchase company stock .............................       (319,420)           --          (319,420)
      Repayment of subscription receivable .................           --              --         5,000,000
      Proceeds from capital leases .........................           --              --           495,851
      Repayment of capital leases ..........................           --              --        (1,031,395)
      Proceeds from notes payable issued to investors ......           --              --         3,550,000
                                                               ------------    ------------    ------------
         Net cash provided by financing activities .........      4,619,694          28,976      94,921,113

(Decrease) increase in cash and cash equivalents ...........     (1,712,673)     (4,400,390)      3,384,515

Cash and cash equivalents, beginning of period .............      5,097,188       8,909,261            --
                                                               ------------    ------------    ------------
Cash and cash equivalents, end of period ...................   $  3,384,515    $  4,508,871    $  3,384,515
                                                               ============    ============    ============

Supplemental disclosure of non--cash transactions:
      Cash paid for interest ...............................   $       --      $       --      $    488,126
                                                               ============    ============    ============
      Cash paid for taxes ..................................   $       --      $      1,956    $     32,000
                                                               ============    ============    ============
      Assets acquired through capital lease ................   $       --      $       --      $    535,445
                                                               ============    ============    ============
</TABLE>
        See notes to unaudited consolidated financial statements.


<PAGE>

                    BEACON POWER CORPORATION AND SUBSIDIARIES
                          (A Development Stage Company)
              Notes to Unaudited Consolidated Financial Statements


Note 1.  Nature of Business and Operations

Nature of Business. Beacon Power Corporation ("the Company") was incorporated on
May 8, 1997. Beacon Power Corporation and its subsidiaries design, develop,
configure and offer for sale advanced products and services to support more
stable and reliable electricity grid operation. The Company has a single
operating segment, developing alternative sustainable energy storage and power
conversion solutions. Its organizational structure has no divisions or
subsidiaries dictated by product lines, geography or customer type. Because the
Company has not yet generated a significant amount of revenue from its principal
operations, it is accounted for as a development stage company under Statement
of Financial Accounting Standards No. 7.

The Company has experienced net losses since its inception and, as of September
30, 2005, had an accumulated deficit of approximately $135 million. It does not
expect to become profitable or cash flow positive until at least 2008 and will
need to raise additional funds to fully execute its business plan.

Fundraising

Subsequent to the end of the quarter, on November 8, 2005, the Company
distributed 9,868,421 newly issued shares of its common stock to ten "accredited
investors", as defined in the Securities Act of 1933, as amended. The number of
shares was determined by dividing the gross proceeds of $15 million by a share
price of $1.52, derived by applying a 20% discount to the five-day volume
weighted average price just prior to the closing date. The Company also issued
warrants to purchase an additional 2,960,527 shares of common stock at an
exercise price of $2.21. Each warrant is exercisable for a period of five years
but may not be exercised until six months and one day after the closing of the
transaction. This transaction resulted in net proceeds to the Company of
$14,175,500 net of expenses and commissions in the amount of $824,500. The
Company has agreed to use these proceeds for working capital purposes only. For
further details, please see the Securities Purchase Agreement which was filed as
Exhibit 10.1 to the Company's Current Report on Form 8-K filed on November 7,
2005.

On May 24, 2005 and July 26, 2005 the Company received an investment of $2.9
million in the aggregate from Perseus 2000 Expansion, LLC, an affiliate of one
of the Company's largest shareholders, and in return issued to Perseus 3,452,380
shares of the Company's Common Stock and a warrant to purchase 800,000 shares of
the Company's Common Stock at $1.008 per share. Perseus also paid $0.1 million
for an extension by two years to an existing warrant already held by Perseus.
This warrant entitles Perseus to purchase 1,333,333 shares of the Company's
Common Stock, exercisable at $2.25 per share.

On each of June 13, 2005 and July 21, 2005, the Company, NxtPhase and Perseus
2000 Expansion invested $500,000 in NxtPhase whereby (a) the Company purchased
111,111 Class A preferred shares of NxtPhase, (b) Perseus 2000 Expansion
purchased 595,238 shares of the Company's common stock and (c) the Company
issued to Perseus 2000 Expansion a warrant to purchase up to 138,636 shares of
its common stock, at an exercise price per share of $1.008. With respect to the
third tranche, Perseus 2000 Expansion did not exercise the NxtPhase Investment
Option and instead, purchased NxtPhase Class A preferred shares directly from
NxtPhase on August 29, 2005. The NxtPhase Investment Option required the Company
to purchase NxtPhase Class A preferred shares using the funds received from
Perseus 2000 Expansion. If the acquisition of NxtPhase is not consummated or
does not occur within a certain period, the Company will transfer its NxtPhase
Class A preferred shares to Perseus 2000 Expansion and Perseus 2000 Expansion
will transfer its Beacon Common Stock issued in connection with the NxtPhase
Investment Option back to the Company.


<PAGE>



Based on the Company's planned cash usage rate, inclusive of its recent
investments in 2005, the Company believes it has adequate cash to fund its
operations into 2007. The Company will need to obtain additional financing to
fund:

o        ongoing research and development of the Smart Energy Matrix;
o        working capital requirements;
o        new business development; and
o        potential acquisitions.


Proposed Business Combination

On April 22, 2005, the Company entered into an agreement to acquire NxtPhase T&D
Corporation ("NxtPhase"), a privately held Canadian corporation. Under terms of
the agreement, the Company would acquire NxtPhase by issuing approximately 15.7
million new shares of common stock of the Company to NxtPhase stockholders and
immediately following closing, to grant restricted stock units for approximately
2.7 million new shares of common stock of the Company to certain of NxtPhase
employees. This agreement resulted from introductions made by Perseus, L.L.C.,
which is an affiliate of both the Company and NxtPhase.

The proposed acquisition is subject to, among other things, approval by the
stockholders of both the Company and NxtPhase and also requires regulatory and
court approvals. The agreement expires on December 31, 2005 unless the
acquisition of NxtPhase has occurred by that date. On September 29, 2005, the
Company filed with the SEC, a preliminary joint proxy statement for the purpose
of obtaining a shareholder vote on this proposed transaction. As of April 22,
2005, the closing bid price of the Company's common stock as reported on the
Nasdaq Capital Market was $0.84 per share which would translate into a purchase
price for NxtPhase of approximately $16 million. On November 8, 2005, the
closing bid price of the Company's common stock as reported on the Nasdaq
Capital Market was $1.85 per share which would translate into a purchase price
for NxtPhase of approximately $35 million. The change in market value of the
Company's common stock does not change the number of shares to be issued to
NxtPhase under the terms of the proposed business combination. Based on the
increase in the valuation of the Company's stock, the preliminary Proxy includes
a statement from the Company's Board of Directors to the Company's shareholders
indicating that at the current stock price, the Board of Directors is not able
to recommend a vote for the transaction.

NxtPhase develops, manufactures and markets products to improve the stability
and reliability of the generation, transmission and distribution of high voltage
electric power. NxtPhase sensors are protected by a portfolio of more than 20
owned or licensed patents. Headquartered in Vancouver, British Columbia,
NxtPhase has sales and manufacturing operations in the United States and Canada.
If it is acquired by the Company, NxtPhase will operate as a wholly owned
subsidiary and will retain the NxtPhase brand name. Many of NxtPhase's products
are in the early stages of development or production and, as such, NxtPhase does
not yet have revenues sufficient to offset its cost of sales and operating
costs. NxtPhase and its predecessor have incurred losses since their inception.

If the acquisition of NxtPhase does not occur by December 31, 2005, it will not
occur unless the Company and NxtPhase agree to extend their agreement on the
same or different terms than those discussed above. The Company believes it is
unlikely that this transaction will be completed by December 31, 2005, or at
all, and as such, has recorded an expense for its previously capitalized direct
merger costs in the amount of $690,984.

Products

The Company has the following products, which are in varying stages of
development, production readiness or low volume production:

Smart Energy Matrix - One of the more challenging aspects of today's electric
grid is the constant balancing of power demand and production to maintain a
stable grid frequency within a narrow band of the target frequency (60 Hz in the
US). This is referred to as frequency regulation. If the imbalances, (or
excursions from the target frequency), are too large, generators and equipment
attached to the grid suffer from a loss in performance and sometimes disconnect
from the grid as a defense mechanism. These unplanned events add to the existing
high level of imbalance and reduce the grid stability. In extreme cases, this
cycle of imbalance and dropping of loads and generators, can lead to blackouts.
The Company's Smart Energy Matrix is a flywheel-based energy storage system
combining high power flywheels with power electronics for the purpose of
supplying frequency regulation services to regional grid operators. These fast
acting systems are designed to instantly deliver electricity when demand exceeds
supply and absorb electricity when supply exceeds demand. It is a
high-performance, long-life, environmentally friendly solution for frequency
regulation, with no fuel consumed and no emissions generated.

In addition to providing frequency regulation services to the grid itself, the
Company also believes that the Smart Energy Matrix is well suited to provide
services to regulate the frequency and improve load following capability of
distributed generation facilities.
 These smaller local grid systems, due to differences in scale, typically suffer
more sudden and dramatic imbalances between power supply and demand than do
regional grids.

Smart Energy 25 - The Company has a design for its 4th generation flywheel
product, the Smart Energy 25. This 25 kWh flywheel will become the basis of the
Company's Smart Energy Matrix and the Company believes this system, when
combined with existing power electronics, also has appeal as a stand-alone
application in markets that require always-on energy storage with the ability to
be charged and discharged hundreds of times per day. The 25kWh flywheel is a
scaling up of the Company's existing Smart Energy 6kWh flywheel system. The
Company will begin full-scale development of its Smart Energy 25 immediately
since it has obtained sufficient funds to begin development of this product.

Smart Energy system - The Company has produced in limited quantities high-energy
flywheel-based systems of 2kWh and 6kWh that store electricity for
telecommunications, cable systems, computer networks and Internet market
applications. The Company has sufficient capacity to return to production if
market demand occurs. These units have been providing energy storage since their
installation, a cumulative operating time of approximately 510,000 hours.

Smart Power(TM) M5 inverter system - The Company's Smart Power M5 inverter
system is an electronic system that converts direct current electricity produced
by photovoltaic panels into alternating current electricity for residential and
commercial use. Although it is continuing to sell and support this product, the
Company does not believe that inverters will be a significant portion of its
business going forward. During the 4th quarter of 2004 the Company recorded a
reserve against its entire inverter inventory of approximately $1,025,000 and
made a provision for future inverter warranty expenditures of approximately
$28,000.

Smart Energy Matrix

The Company's Smart Energy Matrix is designed to provide frequency regulation
services. Frequency regulation, traditionally a function provided by integrated
utilities, has been required by the power industry since the industry began.
With deregulation, it is one of the several ancillary services that have become
a separately identified service with its own established market price. Some of
the services are provided under long-term contracts whereas others are provided
in a spot market consisting of a daily auction run by some regional grid
operators. Today, suppliers of frequency regulation services include
fossil-fuel, hydro and other electricity generators that are willing and able,
at short notice, to vary the supply of electricity in a specified amount during
a specified period.

Participating generators sell both electricity in their capacities as generators
and sell frequency regulation services using some of their reserve generating
capacity. Providing regulation services is qualitatively different than
generating electricity, both because the generator's output constantly varies in
response to continual signals from the grid operator and because it is priced
differently and sold through a different market. Also, not all generators
provide frequency regulation services. Some, such as nuclear power plants, are
unable to vary their output in the manner needed to participate in the market.
If there is no local competitive market for regulation services, regulation must
be provided by local generators. The output of those generators must be adjusted
to provide sufficient reserves for regulation. This adjustment involves lost
potential revenue where output is reduced or additional cost where output must
be increased to operate in an acceptable power range of the generator. In
addition, the constant up and down of supplying frequency regulation services is
hard on equipment. Fossil fuel generators suffer more wear and tear from this
process than do hydro generators. These costs associated with wear and tear are
not optional for turbines that provide regulation and are simply counted as a
cost of generating power.

Where local competitive markets exist for frequency regulation, generators have
the option of operating at reduced power and providing regulation or operating
at a power level that maximizes revenue i.e. 100% power instead of reduced power
with reserves for regulation. Many generators prefer to sell electricity and not
provide frequency regulation services, because their net financial return from
such services is lower than for generating electricity, due to the higher
operating and maintenance costs that arise from frequency regulation as compared
to steady-state generation of electricity. Despite these disadvantages, many
generators sell such services both to obtain revenues from whatever portion of
their generating capacity is held in reserve and to offset the amount that that
the generator otherwise has to pay to its regional grid operator for frequency
regulation services that it has not itself provided to the grid.

Frequency regulation services are contracted through some competitive markets
organized by regional transmission organizations, the entities responsible for
organizing and maintaining the proper operation of the electric grid. Only part
of the U.S. electrical power market is open to competition. For example, there
are competitive markets at the PJM Interconnection (serving the Mid-Atlantic
States), New York Independent System Operator (NY ISO), New England Regional
Transmission Organization (NE RTO) and California Independent System Operator
(CAL ISO). The Electricity Reliability Council of Texas Independent System
Operator (ERCOT ISO) is only partially open, using competitive bidding for a
small fraction of its needs. Frequency Regulation within ERCOT is mostly self
provided and not managed through an open market. The Midwest Independent System
Operator (MISO), serving North and South Dakota, Michigan and Missouri, opened
to competitive bidding in 2005 and the Company understands that MISO will
operate in a manner and scope similar to PJM's frequency regulation auction. On
the other hand, for example, in the southeast United States, Georgia Power must
provide its own frequency regulation and does not obtain competitive bids
because there is no regional transmission organization in this area. The Company
intends to become credentialed and qualified to participate in the competitive
bidding procurement by PJM and other regional transmission operators. The key
qualification for the Company will be to operate a full-size commercial-grade
Smart Energy Matrix for evaluation by the regional transmission operators.

The Company believes the characteristics of its Smart Energy Matrix match the
requirements of the frequency regulation market very well, as it is designed to
quickly draw or absorb excess energy, on very short notice, when generated power
exceeds demand and deliver it when demand exceeds supply. The Company will be
able to provide a faster response than most service providers because the
Company's flywheel systems for supplying or absorbing electricity are inherently
faster acting than generators. The Company can perform either of these steps in
a fraction of the time it takes a fossil fuel generator to increase or reduce
its output. Flywheels actually recycle excess energy when generated power
exceeds load and deliver it when load increases. Using the Company's technology,
frequency regulation can be addressed for the first time as a primary
application - and with higher performance and lower operating costs. Use of the
Smart Energy Matrix also should result in significant environmental benefits,
both in that frequency regulation could be supplied without directly consuming
fuel or generating emissions and in that fossil fuel generators would be able to
operate more efficiently by reducing their frequency regulation services and
hence reducing the extra emissions that come from ramping a generating facility
up and down to provide those services. Similarly, widespread use of the
Company's Smart Energy Matrix may also mean that the most inefficient and
highest-cost generators, being the greatest producers of emissions, would reduce
their participation in the market to a greater degree than the more efficient
producers. The Smart Energy Matrix equipment can also be sited nearly anywhere
advantageous to the grid, even within distribution systems. If sited in the
distribution systems, additional benefits such as voltage regulation and
uninterruptible power can be offered to enhance the value of the product.

Frequency regulation services are provided through a spot or auction market. In
these auctions, the regional power authority accepts bidders having the lowest
bids up through the highest bids necessary to provide the projected amount of
frequency regulation. All of these successful bidders then receive the same,
highest accepted bid price, known as the market clearing price. Because all
successful bidders receive the market clearing price, if that clearing price
provides a bidder with an adequate margin above its costs, a low cost provider
can be assured of being part of the successful bidders and having an adequate
return on investment by bidding zero. During the several years since the spot
market became open to competition, the market clearing price has been well above
the Company's anticipated cost to supply the service. Bidders in frequency
regulation auctions are typically fossil fuel generators that are constrained
from making low bids in the auctions. Fossil fuel generators have increasing
fuel costs, high operating and maintenance costs arising from ramping equipment
up and down to supply frequency regulation services and opportunity costs that
arise from having used generating capacity to provide frequency regulation
services rather than to sell electricity to the grid. Although hydro generators
have lower operating and maintenance costs than fossil fuel producers, they are
geographically limited. In contrast to the fossil fuel generators, the Smart
Energy Matrix has much lower operating and maintenance costs and minimal fuel
costs. Consequently, the Company believes that it will always be a successful
bidder of frequency regulation services to any regional grid operator that uses
an auction market.

The Company believes that the increasing trend towards renewable energy will
have an impact on the future of providing frequency regulation in two ways:

1.       The variable output of these renewable assets, i.e. fluctuating wind or
         sun exposure adds to the mismatch variability between generated power
         and load demand. Additional frequency regulation will be required and
         demand for regulation will increase.

2.       Generator assets scheduled for retirement as a result of environmental
         issues over the next several years tend to be the very assets that
         provide the lowest cost frequency regulation, other than hydro
         facilities.

The Company has identified additional applications for its Smart Energy Matrix
in the distributed generation market. A distributed generation facility is any
electrical power source other than the utilities' power grid, including advanced
generators such as fuel cells, natural gas engines, wind turbines, photovoltaic
arrays and microturbines which usually supply local power to facilities such as
hospitals or manufacturing plants. In distributed generation, demand
fluctuations are a much higher percentage of power production than is
experienced in the power grid, which adversely affects the distributed
generator's ability to match supply and demand. The Company's Smart Energy
Matrix can be used to regulate the frequency of the distributed generation
facility's power in the same way it regulates the frequency of the power grid as
described above. The Smart Energy Matrix, because of its extremely fast response
time, can respond to demand fluctuations better than the distributed generators
and thus provide stability to these micro-grid facilities.

Smart Energy 25

The Company has a design for its 4th generation flywheel product, the Smart
Energy 25. This 25 kWh flywheel system will become the basis of the Company's
Smart Energy Matrix and the Company believes this system, when combined with
existing power electronics, also has appeal as a stand-alone application in
markets that require always-on energy storage with the ability to be charged and
discharged hundreds of times per day. The 25kWh flywheel is a scaling up of the
Company's existing Smart Energy 6kWh flywheel system.

Smart Energy

The Company has offered for sale its Smart Energy flywheel products, which
deliver a low level of power for a long period of time (typically measured in
hours). These products include the 2kWh and 6kWh Smart Energy systems, which
have demonstrated quality performance and reliability at numerous sites. The
Smart Energy products are tailored to the telecommunications, cable systems,
computer networks and Internet markets. The Company believes that its Smart
Energy products offer life cycle cost advantages and significant performance
improvements over conventional, battery-based back-up power sources. The Company
is not actively marketing these products and does not have orders for its Smart
Energy products or any inventory of finished products and does not have purchase
orders in place with vendors for components. In the event that the Company
identifies potential customers and then receives significant customer orders for
these products, it will need to place orders for components with vendors and
hire and train manufacturing personnel to assemble, inspect and assist in the
installation of deliverable units.

Smart Power M5

The Smart Power M5 inverter system for the photovoltaic energy market converts
direct current generated by solar cells from sunlight into alternating current
required by residential and commercial users for operating electrical devices
and reducing the amount of purchased power when it is connected to a power grid.
Solar cells contain semi-conducting material that converts sunlight into direct
current electricity. The Company's Smart Power M5 inverter system has the
capacity to convert direct current electricity into up to 5,000 watts of
alternating current. The Company has not been successful in selling a
significant number of units of its Smart Power M5 and has shifted virtually all
of its development and sales activities from the Smart Power M5 to its Smart
Energy Matrix. The Company does not believe that inverters will be a significant
portion of its business going forward and is uncertain as to when or at what
price it will be able to sell its inventories. In 2004, the Company established
a reserve for its entire Smart Power M5 inventory in its financial statements.

Revenues, Cost of Goods Sold and Operations

Revenue. Although the Company has shipped a limited number of commercial
products and recorded revenues from its development contracts its operations
have not yet reached a level that would qualify it to emerge from the
development stage. It continues to be accounted for as a development stage
company under Statement of Financial Accounting Standards No. 7 "Accounting and
Reporting by Development Stage Enterprises."

The Company recognizes revenues in accordance with accounting principles
generally accepted in the United States of America. Revenues on its flywheel
development contracts are recognized on the percentage of completion basis. The
Company has been awarded contracts by the California State Energy Resources
Conservation and Development Commission and the New York State Energy Research
and Development Authority for programs demonstrating the viability of the
Company's flywheel based system for frequency regulation of electricity on the
power grid. Revenue on commercial product sales is recognized when products are
delivered to end users.

NYSERDA -On February 10, 2005 the Company was awarded a research and development
contract from the New York State Energy Research and Development Authority
(NYSERDA) under a joint initiative between the U.S. Department of Energy (DOE)
Energy Storage Research Program and NYSERDA, entitled "Grid Frequency Regulation
by Recycling Energy in Flywheels," to demonstrate an advanced energy storage
solution for frequency regulation and grid stability in New York State. Under
the contract, the Company will demonstrate a one-tenth-power prototype of the
Company's planned megawatt-level system, known as the Smart Energy Matrix. The
demonstration will integrate the Company's flywheels and associated power
electronics into the distribution power grid. The contract requires a one-tenth
power prototype of the Company's Smart Energy Matrix to be delivered and
installed during the second half of 2005. The contract is expected to cost
approximately $1.4 million, of which approximately $385,000 consists of
inventories the Company had previously expensed and this expected cost will be
partially offset by approximately $645,000 of revenue, nearly all of it in 2005.
Through September 30, 2005, the Company has recorded revenue from this project
of $128,302 and determined this project to be approximately 20% complete.

CEC - On February 14, 2005 the Company executed a contract with the California
State Energy Resources Conservation and Development Commission ("CEC") entitled
"Flywheel Energy Storage System for Grid Frequency Regulation," to demonstrate a
one-tenth power prototype version of its Smart Energy Matrix advanced energy
storage solution for frequency regulation and grid stability. A successful
demonstration of frequency regulation will also serve to demonstrate the
system's technical and market feasibility in the grid stabilization market.
Construction of the prototype is complete and it shipped on September 15, 2005
and testing is ongoing in California. The contract is expected to cost
approximately $1.8 million and this expected cost will be partially offset by
approximately $1.2 million of revenue, with the majority of it in 2005. On
September 15, 2005 the Company shipped its system under this contract and the
system is being tested at the CEC's test facility in San Ramon, California.

Through September 30, 2005, the Company has recorded revenue from this contract
of $974,763 and determined it to be approximately 79% complete. The CEC will
retain approximately $57,000 under this contract until all work has been
completed and CEC accepts the Company's final report. Through September 30,
2005, they have retained approximately $25,000, which is included in accounts
receivable on the Company's consolidated balance sheets.

For the Company's inverter products, which are sold to distributors, the Company
recognizes revenues when and if its distributors ship to their customers.

The Company may enter into other contracts to research and develop or
manufacture products with a loss anticipated at the date the contract is signed.
These contracts are entered into in anticipation that profits will be obtained
from future contracts for the same or similar products. These loss contracts may
provide the Company with intellectual property rights that, in effect, establish
it as the sole producer of these products. Anticipated losses on these contracts
are recognized at the date the Company becomes contractually obligated. Future
losses on contracts are charged to earnings as soon as these losses are known.
Estimated costs in excess of revenues are classified under current liabilities
as "Accrued contract loss." The Company accounts for its long-term government
contracts using the percentage of completion method. Under this method,
percentage of completion is measured principally by the percentage of labor
hours incurred to date for each contract to the estimated total labor hours for
each contract at completion. Costs incurred in excess of amounts billed are
classified as current assets under "Unbilled costs under government contracts."

Cost of goods sold. The Company costs its products at the lower of cost or
market. Any cost in excess of this measurement is expensed in the period in
which it is incurred. In addition, the Company continuously evaluates inventory
and purchase commitments to insure that levels do not exceed the expected
deliveries for the next twelve months. As the Company is still in the
development stage, its actual manufacturing costs incurred exceed the fair
market value of its products. The Company provides a five-year limited product
warranty for its Smart Power M5 product line and accrues for estimated future
warranty costs in the period in which the revenue is recognized.

Operations. The Company has experienced net losses since its inception and, as
of September 30, 2005, had an accumulated deficit of approximately $134 million.
The Company's business strategy is to continue to seek government contracts to
demonstrate the application of its flywheel technologies and identify and review
possible acquisitions or mergers of companies with complementary technologies or
markets. The Company expects to use the results of its government contracts to
validate its technologies and expand relationships it is developing to gain
market access for the Company's future products for the renewable energy
industry. Subsequent to the end of the quarter, the Company obtained the
required funding to begin development of its Smart Energy 25 flywheel, the base
component of its Smart Energy Matrix. However, for other contemplated
flywheel-based systems the Company will continue to evaluate market size, growth
potential and competitive advantages that its products could provide and the
probable market penetration that could be achieved. If markets are identified in
which the Company believes its flywheel products will be successful, and those
markets express a tangible interest in the Company's products, the Company will
seek to obtain additional funds to complete prototype development and production
of identified products. The Company does not expect to become profitable or
obtain positive operating cash flow before 2008 and may not achieve positive
cash flow even at that point or beyond.

Note 2.  Basis of Presentation and Summary of Significant Accounting Policies

The accompanying unaudited consolidated financial statements have been prepared
using accounting principles generally accepted in the United States of America
except that certain information and footnote disclosure normally included in
consolidated financial statements prepared in accordance with generally accepted
accounting principles have been condensed or omitted in this Form 10-Q. It is
suggested that these consolidated financial statements presented herein be read
in conjunction with the Company's consolidated financial statements and notes
thereto included in the Company's Annual Report on Form 10-K, for the year ended
December 31, 2004. In the opinion of the Company's management, all adjustments,
consisting of normal recurring accruals considered necessary for a fair
presentation, have been included in the accompanying unaudited financial
statements. Operating results for the nine months ended September 30, 2005 are
not necessarily indicative of the results that may be expected for the full year
ending December 31, 2005.

Going Concern.

The accompanying unaudited consolidated financial statements have been prepared
on a going concern basis, which contemplates the realization of assets and the
satisfaction of liabilities in the normal course of business. The Company has
had minimal revenues and incurred losses of approximately $135 million since its
inception including losses in the nine months ending September 30, 2005 of
approximately $ 6.2 million. At September 30, 2005, the Company had
approximately $3,384,000 of cash and cash equivalents on hand. Subsequent to the
end of the quarter, on November 8, 2005, the Company distributed 9,868,421 newly
issued shares of its common stock to ten "accredited investors", as defined in
the Securities Act of 1933, as amended. The number of shares was determined by
dividing the gross proceeds of $15 million by a share price of $1.52, derived by
applying a 20% discount to the five-day volume weighted average price just prior
to the closing date. The Company also issued warrants to purchase an additional
2,960,527 shares of common stock at an exercise price of $2.21. Each warrant is
exercisable for a period of five years but may not be exercised until six months
and one day after the closing of the transaction. This transaction resulted in
net proceeds to the Company of $14,175,500 net of expenses and commissions in
the amount of $824,500. The Company has agreed to use these proceeds for working
capital purposes only. For further details, please see the Securities Purchase
Agreement which was filed as Exhibit 10.1 to the Company's Current Report on
Form 8-K filed on November 7, 2005.

On May 24, 2005 and July 26, 2005, the Company received an investment of $2.9
million in the aggregate from Perseus 2000 Expansion, LLC, an affiliate of one
of the Company's largest shareholders, and in return issued to Perseus 3,452,380
shares of the Company's Common Stock and a warrant to purchase 800,000 shares of
the Company's Common Stock at $1.008 per share. Perseus also paid $0.1 million
for an extension by two years to an existing warrant already held by Perseus.
This warrant entitles Perseus to purchase 1,333,333 shares of the Company's
Common Stock, exercisable at $2.25 per share.

Based on the Company's planned cash usage rate, inclusive of its recent
investments in 2005, the Company believes it has adequate cash to fund its
operations into 2007. Even with these investments, the Company will require
additional equity to fully develop its Smart Energy Matrix and to execute its
long-term business plan. There have been no significant additions to or changes
in accounting policies of the Company since December 31, 2004. For a complete
description of the Company's accounting policies, see Note 2 to Consolidated
Financial Statements in the Company's Annual Report on Form 10-K for the year
ended December 31, 2004.

Note 3. Inventory

Inventories are stated at the lower of cost (first-in, first-out method) or
market and consist of raw materials, work in process and finished goods held for
resale. Inventory balances include the following amounts:

                September 30, 2005   December 31, 2004
                   ------------        -----------
Raw materials ..   $       --         $   176,349
Work in progress           --              46,244
Finished goods .           --                --
                   ------------        -----------
Inventories, net   $       --         $   222,593
                   ============        ===========


As of September 30, 2005, all inventory is included as part of "Unbilled costs
on government contracts" in the Company's consolidated balance sheet. Any
inventories not associated with the Company's government contracts were
previously reserved.


<PAGE>


Note 4.  Property and Equipment

Property and equipment are stated at cost and consist of the following:

<TABLE>
<CAPTION>
                                                Estimated
                                                  Useful       September 30, December 31,
                                                  Lives           2005           2004
                                               -----------    ------------  ------------
<S>                                              <C>          <C>            <C>
Machinery and equipment ......................   5 years      $   575,663    $   571,198
Service vehicles .............................   5 years           16,762         16,762
Furniture and fixtures .......................   7 years          255,939        296,652
Office equipment .............................   3 years        1,431,809      1,396,562
Leasehold improvements .......................   Lease term       533,352        533,352
Equipment under capital lease obligations ....   Lease term       918,285        918,285
                                                              -----------    -----------
      Total ..................................                $ 3,731,810    $ 3,732,811
Less accumulated depreciation and amortization                 (3,499,964)    (3,474,164)
                                                              -----------    -----------
      Property and equipment, net ............                $   231,846    $   258,647
                                                              ===========    ===========
</TABLE>


Note 5.  Commitments

The Company's principal contractual obligations as of September 30, 2005 are as
follows:

<TABLE>
<CAPTION>
                                    Three months         Cash payments due during the
                                       ending               year ended December 31,
                                                         ------------------------------
Description of commitment         December 31, 2005          2006             2007         Thereafter         Total
------------------------------    ------------------     -------------    -------------    -----------    --------------
<S>                                   <C>                  <C>              <C>              <C>          <C>
Operating leases                      $     132,353        $  529,413       $  397,059       $      -     $   1,058,825
Non-cancelable purchase
orders                                      202,671                 -                -              -           202,671
                                  ------------------     -------------    -------------    -----------    --------------
Total commitments                     $     335,024        $  529,413       $  397,059        $     -     $   1,261,496
                                  ==================     =============    =============    ===========    ==============
</TABLE>

The Company leases office and light manufacturing space under an operating lease
with a term through September 30, 2007. At September 30, 2005, the Company has
provided the lessor with an irrevocable letter of credit with a balance of
$219,568, which is reduced annually during the lease term. This letter of credit
is secured by a cash deposit, which is included in restricted cash in the
accompanying consolidated balance sheets.

The Company has firm non-cancelable purchase commitments with its suppliers to
satisfy contractual obligations for its research and development programs in the
amount of approximately $202,671. In the fourth quarter of 2004, the Company
fully reserved all contractual obligations related to its Smart Power M5
purchase commitments.

Legal Proceedings. The Company may be subject to various legal proceedings, many
involving routine litigation incidental to its business. The outcome of any
legal proceeding is not within the complete control of the Company, is often
difficult to predict and may be resolved over very long periods of time.
Estimating probable losses associated with any legal proceedings or other loss
contingencies are very complex and require the analysis of many factors
including assumptions about potential actions by third parties. Loss
contingencies are recorded as liabilities in the consolidated financial
statements when it is both (1) probable and known that a liability has been
incurred and (2) the amount of the loss is reasonably estimable. If the
reasonable estimate of the loss is a range and no amount within the range is a
better estimate, the minimum amount of the range is recorded as a liability. If
a loss contingency is not probable or not reasonably estimable, a liability is
not recorded in the consolidated financial statements.

On August 16, 2004, Ricardo and Gladys Farnes and TLER Associates, Ltd., a
Bahamas corporation ("TLER," and together with Ricardo and Gladys Farnes, the
"Plaintiffs"), delivered a complaint to the Company naming as defendants the
Company, John Doherty, Richard Lane and unidentified individuals and
corporations. The Plaintiffs and the Company settled this dispute on July 31,
2005. The Company paid the Plaintiffs a sum of $5,000 and the parties agreed to
file a stipulation stating, among other things, that the litigation is dismissed
with prejudice. The settlement did not constitute an admission of liability by
the Company.

Note 6.  Investments

On April 22, 2005 the Company entered into an Investment Agreement with Perseus
Capital, L.L.C. and Perseus 2000 Expansion, L.L.C. ("Perseus 2000 Expansion"),
and Perseus 2000 Expansion separately entered into a term sheet with NxtPhase.
On the same day, the Company entered into an agreement to acquire 100% of
NxtPhase. See Note 1 for more information. In each of the Investment Agreement
and the NxtPhase term sheet, the respective companies have the right to require
Perseus 2000 Expansion to purchase shares of such company's capital stock at a
price per share as specified in the Investment Agreement and NxtPhase term
sheet, respectively. Perseus 2000 Expansion has purchased $1.0 million in the
aggregate. The Investment Agreement also provides that if NxtPhase requires
Perseus 2000 Expansion to purchase NxtPhase Class A preferred shares, Perseus
2000 Expansion may assign its obligation to the Company to purchase such
NxtPhase Class A preferred shares, so long as Perseus 2000 Expansion purchases
an equivalent dollar amount of the Company's common stock, on the terms set
forth in the Investment Agreement. The agreement between the Company and Perseus
on the NxtPhase related investment contains unwind language in the event that
the proposed acquisition of NxtPhase does not occur. This would result in the
Company exchanging its NxtPhase Class A preferred stock for shares of its common
stock issued to Perseus.

On each of June 13, 2005 and July 21, 2005, the Company invested $500,000 in
NxtPhase whereby (a) the Company purchased 111,111 Class A preferred shares of
NxtPhase for $500,000, (b) Perseus 2000 Expansion purchased 595,238 shares of
the Company's common stock for $500,000and (c) the Company issued to Perseus
2000 Expansion a warrant to purchase up to 138,636 shares of its common stock,
at an exercise price per share of $1.008. With respect to the third tranche,
Perseus 2000 Expansion did not exercise the NxtPhase Investment Option and
instead, purchased NxtPhase Class A preferred shares directly from NxtPhase on
August 29, 2005. The NxtPhase Investment Option required the Company to purchase
NxtPhase Class A preferred shares using the funds received from Perseus 2000
Expansion. If the acquisition of NxtPhase does not occur by December 31, 2005,
the Company will transfer its NxtPhase Class A preferred shares to Perseus 2000
Expansion and Perseus 2000 Expansion will transfer its Beacon common stock
issued in connection with the NxtPhase Investment Option back to the Company.

This investment in the equity securities of NxtPhase is classified as held to
maturity and is carried on the balance sheet at cost.

Note 7.  Common Stock

Shareholder Rights Agreement. In September 2002, and amended as of December 27,
2002, the Company's board of directors approved a Rights Agreement, under which,
each holder of common stock on October 7, 2002 automatically received a
distribution of one Right for each share of common stock held. Each Right
entitles the holder to purchase 1/100th of a share of the Company's newly issued
preferred stock for $22.50 in the event that any person not approved by the
board of directors acquires more than 15% (35% in the case of one large
shareholder that already owned more than 15%) of the outstanding common stock,
or in the event that the Company is acquired by another company, $22.50 worth of
the common stock of the other company at half its market value (in each case any
rights held by the acquiring person are not exercisable and become void).

Treasury Stock. In May 2005, and again in August 2005, the board of directors
authorized the Company to purchase 99,146 and 48,841 shares, respectively, of
the Company's common stock from its three executive officers at an average
market price of $0.89 and $4.74 per share, respectively. These shares were
originally issued to the officers under the Company's restricted stock unit
deferred compensation program described in Note 10. This decision was driven by
the Company's policies restricting open market trading by senior personnel who
have access to material nonpublic information. As those policies prevent
management from selling shares to the market to generate cash to fund the
withholding tax obligations that arise from the compensation income which is
generated by the restricted stock units, the Company has withheld shares in
sufficient quantity to pay the tax liability in connection with these
installments of restricted stock.

Reserved Shares. At September 30, 2005 and December 31, 2004, 8,051,681 and
11,601,803 shares of common stock were reserved for issuance under the Company's
stock option plan and for outstanding warrants, respectively. The following
schedule shows warrants outstanding as of September 30, 2005:
<TABLE>
<CAPTION>

Warrantholder                         Grant Date       Expiration       Strike          Issued and
                                                          Date            Price        Outstanding
---------------------------------     ------------     ------------     ----------     -------------
<S>                                     <C>            <C>             <C>              <C>
Perseus Capital, L.L.C.                 5/23/2000        5/23/2007       $ 2.25           1,333,333
GE Capital (CR&D)                      10/24/2000       10/24/2005       $ 2.10             120,000
Perseus 2000 Expansion, L.L.C.          5/24/2005        5/24/2010       $ 1.01             800,000
Perseus 2000 Expansion, L.L.C.          6/10/2005        6/10/2010       $ 1.01             138,636
Perseus 2000 Expansion, L.L.C.          6/10/2005        6/10/2010       $ 1.01             138,636
                                      ------------     ------------     ----------     -------------
Total Warrants                                                                            2,530,605
</TABLE>

On October 21, 2005, GE Capital instructed the Company to execute a cashless
exercise of its warrant and as a result, the Company issued 24,215 shares of its
common stock to GE Capital.

Note 8.  Related Party Transactions

Loan to Officer. During 2001, the Company advanced approximately $565,000 to an
officer of the Company, Mr. William Stanton, its former CEO and President and
currently a director of and consultant to the Company. This advance was interest
bearing and secured by Mr. Stanton's holdings of the Company's common stock and
was provided to him to allow the exercise of stock options and the payment of
related taxes. On August 5, 2005, Mr. Stanton surrendered vested options to
purchase 76,752 shares of common stock of the Company which were granted to him
on October 13, 2004. The Company gave Mr. Stanton credit for $100,544 as a
result of such surrender, which equaled the excess of the value of the shares
issuable upon exercise of the options, based on the mid-point of the high and
the low trading prices per share of the Company's common stock on August 5,
2005, over the exercise price of the options, to repay in full the outstanding
principal of and interest on the loan advanced by the Company to Mr. Stanton as
described above. The Company considers these shares treasury stock, recorded at
its cost.

Perseus Investment. On April 22, 2005, a fund affiliated with Perseus, L.L.C.
committed to invest a maximum of $3.0 million in the Company and was granted the
option to assign to the Company its right to make a maximum investment of
$1,500,000 in NxtPhase T&D Corporation, to be made in three tranches. The option
was granted in connection with a Preferred Stock Purchase Agreement among
NxtPhase and certain of its existing Class A preferred shareholders. The option
was granted as part of a proposed acquisition of NxtPhase by the Company and, if
exercised by Perseus, required the Company to purchase Class A preferred shares
of NxtPhase in exchange for Perseus purchasing shares of the Company's common
stock. The $3.0 million investment in the Company by Perseus is to be made in
exchange for approximately 3.6 million shares of the Company's common stock,
warrants covering up to 0.8 million shares of the Company's common stock,
exercisable at $1.008 per share and a two year extension of a 1,333,333 warrant,
exercisable at $2.25 per share, already held by Perseus. The $1.5 million
investment by Perseus to fund NxtPhase is to be made in exchange for the receipt
by Perseus of approximately 1.8 million shares of the Company's common stock and
warrants covering up to 0.4 million shares of the Company's common stock,
exercisable at $1.008 per share, and in exchange for the receipt by the Company
of approximately 0.3 million shares of NxtPhase Class A preferred stock. The
agreement between the Company and Perseus on the NxtPhase related investment
contains unwind language in the event that the proposed acquisition of NxtPhase
does not occur. This would result in the Company exchanging its NxtPhase Class A
preferred stock for shares of its common stock issued to Perseus. On May 24,
2005 Perseus invested $1.4 million in the Company and also paid $100,000 for the
warrant extension. Then on July 26, 2005 Perseus invested the remaining $1.5
million of the $2.9 million commitment. On the NxtPhase investment, Perseus
invested $1 million that was then invested by the Company into NxtPhase in
exchange for approximately .2 million shares of NxtPhase Class A preferred
stock. See Note 6 for more information.

Treasury Stock. In May and August 2005 the board of directors authorized the
Company to purchase 99,146 and 48,841 shares, respectively of the Company's
common stock from its executive officers at market price of $0.89 and $4.74 per
share, respectively. These purchases were driven by the Company's policies
restricting open market trading by senior personnel who have access to material
nonpublic information. As those policies prevent management from selling shares
to the market to generate cash to fund the withholding tax obligations that
arise from the compensation income which is generated by the restricted stock
units. The Company records its treasury stock at cost.


Note 9. Restructuring Charges

Restructuring and asset impairment charges. The Company's initial products were
focused on the telecommunications industry. As a result of the overall economic
downturn and in particular the significant decline in capital and maintenance
spending in telecommunications as well as the low price of lead-acid batteries,
products competing with those of the Company, the Company has not been
successful in selling products into this market. In December, 2003, the Company
recorded a non-cash asset impairment charge of $0.4 million in order to reduce
the carrying amount of its flywheel related patents and patents pending as the
estimated future cash flows anticipated from these assets were substantially in
doubt. Also, in July, 2002, in an effort to reduce its monthly cash-spending
rate, the Company implemented a number of cost-cutting measures to ensure the
availability of resources necessary to pursue its business strategy for a
reasonable period but at a significantly lower cash expenditure rate. As a
result, a substantial portion of the Company's long-term assets were idled,
including machinery and equipment, tooling, office furniture, equipment and
leasehold improvements. The Company evaluated all of its property and equipment
as required by Statement of Financial Accounting Standards No. 144 "Accounting
for the Impairment or Disposal of Long-Lived Assets" and, in 2002, incurred a
restructuring and impairment charge of $6.5 million of which $4.3 million
represents impaired capital equipment and leasehold improvements, $.3 million
relates to severance costs and $1.9 million relates to a reserve against future
lease payments and related facility costs. The reserve against future lease
payments is classified as "Restructuring Reserve" in the current liabilities
section of the balance sheet.

A summary of the restructuring reserves is as follows:

                                         Nine months ended September 30,
                                       ------------------------------------
                                            2005                 2004
                                       ----------------     ---------------
Beginning balance                         $  1,062,644        $  1,406,191
Charges for the period                               -                   -
Payments                                     (257,660)           (257,660)
                                       ----------------     ---------------
Ending balance                             $   804,984        $  1,148,531
                                       ================     ===============


Note 10.  Stock-Based Compensation

The Company's Second Amended and Restated 1998 Stock Incentive Plan provides for
the granting of stock options to purchase up to 9,000,000 shares of the
Company's common stock. Options with terms of up to 10 years may be granted to
employees, officers, directors and consultants of the Company. Under the terms
of the plan, incentive stock options ("ISOs") are to be granted at fair market
value of the Company's stock at the date of grant and nonqualified stock options
("NSOs") are to be granted at a price determined by the Board of Directors. ISOs
and NSOs generally vest ratably over 36 months from the grant date and have
contractual lives of up to 10 years.

The Company accounts for stock based employee compensation using the intrinsic
value method prescribed in Accounting Principles Board Opinion No. 25
(Accounting for Stock Issued to Employees) and related interpretations. In 2002,
the Company implemented FASB Statement of Financial Accounting Standards No. 148
("SFAS 148"), "Accounting for Stock-Based Compensation-Transition and
Disclosure." SFAS 148 amends current disclosure requirements and requires
prominent disclosures on both annual and interim financial statements about the
method of accounting for stock-based employee compensation and the effect of the
method used on reported results. This statement is effective for financial
reports containing financial statements for interim periods beginning after
December 15, 2002. SFAS 148 also provides alternative methods of transition for
a voluntary change to fair-value based methods of accounting, which the Company
has not adopted at this time.

Deferred compensation expense associated with stock awards to non-employees is
measured using the fair-value method and is amortized over the vesting period
using a calculation under FASB Interpretation No. 28, "Accounting for Stock
Appreciation Rights and Other Variable Stock Option or Award Plans."

No stock-based compensation is reflected in net earnings for stock options
granted to employees as all options granted under the plan had an exercise price
equal to or greater than the market price of the underlying stock at the date of
the grant. The following table illustrates the effect on net earnings and
earnings per share if the Company had applied the fair value recognition
provisions of FASB Statement No. 123 "Accounting for Stock-Based Compensation"
to stock-based employee compensation using the Black Scholes stock option
valuation formula.


<TABLE>
<CAPTION>
                                                Three months ended September 30,          Nine months ended September 30,
                                                    2005                2004                 2005                 2004
                                              ----------------- -- ----------------    ----------------- -- -----------------
<S>                                           <C>                 <C>                  <C>                  <C>
Net loss to common shareholders as reported   $  (2,143,442)      $  (1,854,795)       $  (6,153,223)       $  (6,269,728)
Pro forma compensation expense                       22,626              82,686              105,312              267,073
                                              -----------------    ----------------    -----------------    -----------------
Net loss--pro forma                           $  (2,166,068)      $  (1,937,481)       $  (6,258,535)       $  (6,536,801)
Loss per share--as reported                    $     (0.04)        $     (0.04)         $     (0.13)         $     (0.14)
Loss per share--pro forma                      $     (0.04)        $     (0.04)         $     (0.14)         $     (0.15)
</TABLE>


Restricted Stock Units

In 2003, the Company put into place a long-term incentive plan (LTIP) for all
executives and employees for 2003 and 2004. Based on the Company's need to
conserve cash and the desire to retain its professional staff, the Company
determined that it would be in the best interest of it, its employees and its
stockholders to implement a stock-based Deferred Compensation Plan.

The LTIP eliminated the previous cash bonus structure for successful performance
and replaced it with a program whereby the Company establishes goals that are
strategically aligned to the Company's performance and, therefore, shareholder
value. The LTIP agreement is intended to provide employees deferred compensation
in the form of restricted stock units (or "RSUs") at no cost to the recipient,
that can be converted into shares of Company's common stock through establishing
and evaluating quarterly, or in some cases yearly, targets for the employee and,
following each quarter, determining the number of RSUs to accrue and to be
granted in four equal installments in the fiscal year following the fiscal year
with respect to which employee accrued the RSUs. Employees have the right to
convert their RSUs into shares at any time after such grant, subject to a
quarterly vesting schedule. The Company's employees earned 738,921 and 667,151
RSUs for the fiscal years ended December 31, 2004 and 2003, respectively, which
are not available for exercise until satisfaction of the quarterly vesting
period during the following calendar year. The grants are recorded as deferred
stock compensation until they are earned over the vesting schedule, at which
time, the value of the RSUs will be recorded as compensation expense in the
Company's Income Statement. Compensation expense recorded for the nine months
ending September 30 was $621,153 and $717,079 for 2005 and 2004, respectively.



<PAGE>


Note 11.  Income Taxes

At December 31, 2004 the Company had approximately $81 million of net operating
loss carry forwards which begin to expire in 2012 and additional research and
development tax credits. Valuation allowances have reduced the potential
benefits from the use of these carry forwards to zero as their future
utilization is not assured.

Under the provisions of the Internal Revenue Code, certain substantial changes
in the Company's ownership may limit, in the future, the amount of net operating
loss carry forwards which could be utilized annually to offset future taxable
income and income tax liabilities. The amount of any annual limitation is
determined based upon the Company's value prior to an ownership change. The
Company's agreement to effect a business combination with NxtPhase T&D
Corporation (see Note 6) may limit the value of these tax loss carry-forwards if
that combination occurs, but the Company has not yet made an assessment of this
limitation.

Note 12.  Subsequent Events

Fundraising

On November 8, 2005, the Company distributed 9,868,421 newly issued shares of
its common stock to ten "accredited investors", as defined in the Securities Act
of 1933, as amended. The number of shares was determined by dividing the gross
proceeds of $15 million by a share price of $1.52, derived by applying a 20%
discount to the five-day volume weighted average price just prior to the closing
date. The Company also issued warrants to purchase an additional 2,960,527
shares of common stock at an exercise price of $2.21. Each warrant is
exercisable for a period of five years but may not be exercised until six months
and one day after the closing of the transaction. This transaction resulted in
net proceeds to the Company of $14,175,500 net of expenses and commissions in
the amount of $824,500. The Company has agreed to use these proceeds for working
capital purposes only. For further details, please see the Securities Purchase
Agreement which was filed as Exhibit 10.1 to the Company's Current Report on
Form 8-K filed on November 7, 2005.


Air Force Research Laboratory Contract

On October 10, 2005 the Company was awarded a contract through the Air Force
Research Laboratory and co-funded by the Defense Advanced Research Projects
Agency (DARPA) of the U.S. Department of Defense. The contract is a firm
fixed-price contract expected to cost approximately $750,000 and produce revenue
of approximately $750,000. As specified in the contract, the Company will
provide the preliminary design of a space-based flywheel energy storage system
for satellite applications. The contract is a Phase II award under the Small
Business Innovation Research (SBIR) program of the U.S. Small Business
Administration's Office of Technology. The Company completed an associated Phase
I project earlier this year in the amount of approximately $98,000.




<PAGE>


Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations

Note Regarding Forward Looking Statements:

This Quarterly Report on Form 10-Q contains forward-looking statements
concerning, among other things, the Company's expected future revenues,
operations and expenditures and estimates of the potential markets for the
Company's services. Such statements made by the Company fall within the meaning
of the Private Securities Litigation Reform Act of 1995, as amended. All such
forward-looking statements are necessarily only estimates of future results and
the actual results achieved by the Company may differ materially from these
projections due to a number of factors as discussed in the section entitled
"Certain Factors Affecting Future Operating Results" of this Form 10-Q.

Critical Accounting Policies and Estimates

The preparation of financial statements requires management to make estimates
and judgments that affect the reported amounts of assets, liabilities, revenues,
expenses and related disclosures. On an ongoing basis, management evaluates the
Company's estimates and assumptions including but not limited to those related
to revenue recognition, asset impairments, inventory valuation, warranty
reserves, contract losses and other assets and liabilities. Management bases its
estimates on historical experience and various other assumptions that it
believes to be reasonable under the circumstances, the results of which form the
basis for making judgments about the carrying values of assets and liabilities
that are not readily apparent from other sources. Actual results may differ from
these estimates under different assumptions or conditions.

Revenue Recognition. Although the Company has shipped products and recorded
contract revenues its operations have not yet reached a level that would qualify
it to emerge from the development stage. It continues to be accounted for as a
development stage company under Statement of Financial Accounting Standards No.
7 "Accounting and Reporting by Development Stage Enterprises."

The Company recognizes shipped product revenues, in accordance with accounting
principles generally accepted in the United States of America. Generally,
revenue is recognized on transfer of title, typically when products are shipped
and all related costs are estimable. For sales to distributors, the Company
makes an adjustment to defer revenue until the products are subsequently sold by
distributors to their customers.

Government Contract Revenue Recognized on the Percentage-of-Completion Method.
The Company recognizes contract revenues using the percentage-of-completion
method. Under SOP 81-1, an acceptable methodology is the efforts-expended method
based on a measure of the work performed. The Company uses labor hours as the
basis of the percentage of completion calculation. It is measured principally by
the percentage of labor hours incurred to date for each contract to the
estimated total labor hours for each contract at completion. Each quarter the
Company performs an estimate-to-complete analysis and any changes to its
original estimates are recognized in the period in which they are determined.

Revenues recognized and/or costs incurred in excess of amounts billed are
classified as current assets and included in "Unbilled costs on government
contracts" and amounts billed to clients in excess of revenues recognized to
date are classified as current liabilities under "Advance billings on contracts"
in the Company's consolidated balance sheets. Provisions for contract losses are
included in current liabilities as "Accrued contract loss." Changes in project
performance and conditions, estimated profitability and final contract
settlements may result in future revisions to construction contract costs and
revenue.

Inventory Valuation. The Company values its inventory at the lower of actual
cost or the current estimated market value. It regularly reviews inventory
quantities on hand and records a provision for excess and obsolete inventory
based primarily on historical usage for the prior twelve month period and future
sales forecasts. Although the Company makes every effort to ensure the accuracy
of its forecasts of future product demand, any significant unanticipated changes
in demand or technological developments could have a significant impact on the
value of its inventory and its reported operating results.

Warranty Reserves. The Company's warranties require it to repair or replace
defective products returned to it during the applicable warranty period at no
cost to the customer. It records an estimate for warranty-related costs based on
actual historical return rates, anticipated return rates and repair costs at the
time of sale. A significant increase in product return rates, or a significant
increase in the costs to repair products, could have a material adverse impact
on future operating results for the period or periods in which such returns or
additional costs materialize and thereafter.

Income Taxes. Deferred tax assets and liabilities are determined based on
differences between the financial reporting and income tax bases of assets and
liabilities as well as net operating loss and tax credit carryforwards and are
measured using the enacted tax rates and laws that will be in effect when the
differences reverse. Deferred tax assets are reduced by a valuation allowance to
reflect the uncertainty associated with their ultimate realization.

Significant management judgment is required in determining the provision for
income taxes, the deferred tax assets and liabilities and any valuation
allowance recorded against deferred tax assets. The valuation allowance is based
on the Company's estimates of taxable income and the period over which its
deferred tax assets will be recoverable. In the event that actual results differ
from these estimates or the Company adjusts these estimates in future periods it
may need to establish an additional valuation allowance or reduce its current
valuation allowance which could materially impact its tax provision.

Long-Lived Assets. In accordance with Statement of Financial Accounting
Standards No. 144 "Accounting for the Impairment or Disposal of Long-Lived
Assets", long-lived assets to be held and used by the Company are reviewed to
determine whether any events or changes in circumstances indicate that the
carrying value of the asset may not be recoverable. The conditions to be
considered include whether or not the asset is in service, has become obsolete,
or whether external market circumstances indicate that the carrying amount may
not be recoverable. When appropriate the Company recognizes a loss for the
difference between the estimated fair value of the asset and the carrying
amount. The fair value of the asset is measured using either available market
prices or estimated discounted cash flows.

Investments. Marketable equity securities not classified as held-to-maturity or
as trading are classified as available-for-sale and are carried at fair market
value with the unrealized gains and losses, net of tax, included in the
determination of comprehensive income and reported in shareholders' equity. The
fair value of substantially all securities is determined by quoted market
prices. The estimated fair value of securities for which there are no quoted
market prices is based on similar types of securities that are traded in the
market.

Overview

The Company's initial product strategy was to develop high energy, composite
flywheels for back-up powering of telecommunications applications. With the
weakening of the telecommunications market the Company recognized that its Smart
Energy flywheel products as alternative backup solutions to the
telecommunications industry were not on a path to produce meaningful revenues.
With that recognition, the Company initiated a series of cost cutting measures
throughout 2002 and 2003. The focus of these efforts was to reduce cash usage,
preserve the Company's intellectual properties and maintain the integrity of its
public company requirements while evaluating all potential product markets for
the Company's technologies and considering acquisitions or mergers that could
lead to increased shareholder value. The Company has:

o        identified promising applications for its Smart Energy Matrix design in
         the electric utility power grid marketplace. In the first quarter of
         2005 the Company was awarded development contracts by CEC and NYSERDA
         to demonstrate the viability of the Company's flywheel technologies for
         frequency regulation by grid operators. The demonstrations will be a
         one-tenth-power prototype of the Smart Energy Matrix;

o        pursued additional development and design contracts for a variety of
         applications by government agencies. The Company received in October,
         2005 a $750,000 contract from the Air Force Research Laboratory to
         provide preliminary designs for "Extreme Energy Density Flywheel Energy
         Storage System" for Space Applications and has been successful in
         obtaining other small contracts and is continuing its efforts to obtain
         additional research and development funding; and

o        entered into an agreement on April 22, 2005 to acquire NxtPhase T&D
         Corporation ("NxtPhase"), a privately held Canadian supplier of digital
         and fiber optic products for electric power and grid monitoring and
         control.


The Company has been successful in raising additional working capital. On
November 8, 2004 the Company issued 9,868,421 shares of its common stock and
warrants representing 2,960,527 shares of common stock to certain investors in
exchange for an investment of $15 million, less expenses and commissions, for
net proceeds of $14,175,500. Also, on May 24, 2005 and July 26, 2005 Perseus
2000 Expansion, LLC, an affiliate of one of the Company's largest shareholders,
invested $2.9 million and received 3,452,380 shares of the Company's Common
Stock and a warrant to purchase 800,000 shares of the Company's Common Stock at
$1.008 per share and paid $0.1 million for an extension to an existing warrant
extending its life two additional years. See Note 1 for more information.

Even with these investments, the Company expects it will require additional
financing to fund:

o ongoing research and development primarily related to the Smart Energy Matrix;
o working capital requirements; o new business development; and o potential
acquisitions.


From inception through September 30, 2005, the Company has incurred losses of
approximately $135 million. The Company expects to continue to incur losses as
it expands its product development, commercialization program and establishes
manufacturing capabilities for the Smart Energy Matrix.

The Company recognized an asset impairment charge in 2003 and restructuring and
asset impairment charges in 2002. The Company, as required by Statement of
Financial Accounting Standards No. 144, "Accounting for the Impairment or
Disposal of Long-Lived Assets," periodically evaluates all of its property and
equipment in light of facts and circumstances and the outlook for future cash
flows. As a result of its ongoing evaluations, in 2003 the Company took a
non-cash charge of approximately $0.4 million representing the impairment of
capitalized costs of internally developed intellectual property including
various patents and patents pending relating to the Company's flywheel
technology. In 2002 the Company took a non-cash charge of $6.5 million of which
$4.3 million represented impaired capital equipment and leasehold improvements,
$1.9 million related to a reserve against future lease payments and related
facility costs and $0.3 million relating to severance costs. These charges
related to a substantial portion of the Company's long-term assets being idled,
including machinery and equipment, tooling, office furniture and fixtures and
leasehold improvements. The portion of the reserve that relates to future lease
payments is classified as "Restructuring reserve" in the current liabilities
section of the balance sheet.


Results of operations:

Comparison of nine months ended September 30, 2005 and 2004

                                            Nine months ended September 30,
                                          2005     2004    $ Change   % Change
                                        -------- --------- --------- -----------
                                                    (in thousands)
Revenues .............................   $ 1,259   $   265   $   994        375%
Cost of goods sold ...................     1,352     1,364       (12)         1%
Selling, general and administrative ..     4,130     3,328       802         24%
Research and development .............       994     2,743    (1,749)        64%
Loss on sales and contract commitments     1,057      --       1,057          0%
Depreciation and amortization ........        62       130       (68)        52%
Interest and other income, net .......       183     1,030      (847)        82%



<PAGE>


Revenues. For the nine months ending September 30, 2005, the Company's revenues
were as follows:

                                    Percent           Revenue (in
Source                              complete           thousands)
-----------------------------    ---------------    -----------------
CEC Contract                             79.00%           $      975
NYSERDA Contract                         20.00%                  128
Bechtel Bettis Contract                 100.00%                   71
PON 800 Contract                         18.00%                   14
M5 and accessories                          n/a                   71
                                                    -----------------
Total                                                    $     1,259
                                                    =================

The Company recorded revenue from its development contracts of approximately
$1,188,000 and revenue from the sale of its Smart Power M5 power conditioning
systems of approximately $71,000. Revenues for the nine months ending September
30, 2004 were primarily generated from sales of the Company's Smart Power M5 in
the amount of $169,000 and also from a research and development contract with
DARPA of approximately $96,000.

In the first quarter of 2005, the Company was awarded development contracts with
the California State Energy Resources Conservation and Development Commission
(CEC) and the New York State Energy Research and Development Authority (NYSERDA)
to demonstrate the viability of the Company's flywheel technologies for
frequency regulation. The demonstrations will be conducted using one-tenth-power
prototypes of the Company's planned megawatt-level system known as the Smart
Energy Matrix. Under these contracts, the Company expects to develop and install
a system in both California and New York during 2005 to demonstrate the benefits
of using flywheel energy storage to provide frequency regulation of the grid; a
service required by all grid operators. Successful demonstrations of frequency
regulation with CEC and NYSERDA may also demonstrate the system's technical and
market feasibility in other large, important, growing markets related to the
North American grid. The CEC prototype was shipped on September 15, 2005 and is
currently being tested in California.

Cost of Goods Sold. Cost of goods sold for the nine months ending September 30,
2005 includes costs incurred to date for the Company's flywheel development
contracts in the amount of approximately $1,307,000, sell-through adjustment and
warranty accruals for Smart Power M5 inverter product sold of approximately
$45,000. Cost of goods sold, for the nine months ending September 30, 2004,
includes costs associated with both Smart Power M5 inverters and a
flywheel-related government contract. The costs associated with the Smart Power
M5 include materials and direct labor. In addition to these costs, the Company
recognized an inventory reserve of approximately $778,000 for inventories that
had become obsolete due to design changes and reductions in expected sales
volumes over the next twelve months. Additionally, the Company recorded a charge
for its non-cancelable purchase commitments in excess of requirements related to
the M5 inverter in the amount of approximately $236,000. On the government
contract, the Company recorded all costs incurred to date of approximately
$143,000.

Selling, General and Administrative Expenses. The Company's sales and marketing
expenses consist primarily of compensation and benefits for its sales and
marketing personnel and related business development expenses. The Company's
general and administrative expenses consist primarily of compensation and
benefits related to its corporate staff, professional fees, insurance and travel
costs. Selling, general and administrative expenses totaled approximately
$4,130,000 and $3,328,000 for the nine months ended September 30, 2005 and 2004,
respectively. The increase of approximately $802,000 or 24% is primarily the
result of the expensing of the prepaid financing costs due to the uncertainty of
the NxtPhase acquisition of $690,000 and increases in the cost of personnel and
benefits and higher professional fees of $112,000.

Research and Development. The Company's cost of research and development
consists primarily of the cost of compensation and benefits for research and
development and support staff, as well as materials and supplies used in the
engineering design process exclusive of the Company's development contracts.
These costs decreased for the nine months ending September 30, 2005 over the
same period during 2004 due primarily to the allocation of resources from
research and development departments to the Company's flywheel development
contracts presented in cost of goods sold. As a result, the Company expects its
cost of research and development for the duration of these contracts to continue
to be lower compared to 2004. The Company expects its research and development
costs will be more significant once its flywheel development contracts are
substantially complete and it begins development of a full scale prototype of
the Smart Energy Matrix and it has obtained funding to complete this work.
Research and development expenses totaled approximately $994,000 and $2,743,000
for the nine months ended September 30, 2005 and 2004, respectively. The
decrease of $1,749,000 or 64% is primarily the result of accounting allocations
from research and development expense to its development contracts.

Loss on Sales and Contract Commitments. The Company has established reserves for
anticipated losses on its government contracts with CEC and NYSERDA. Expected
losses are approximately $1,057,000 ($642,000 for CEC, $341,000 for NYSERDA and
$74,000 for others). The Company agreed, in its government contracts, to provide
cost sharing dollars. The expected losses increased over the second quarter of
2005 due primarily to additional labor costs associated with the contracts. The
Company did not accrue such losses during 2004. The Company is continuously
evaluating its loss reserve and will make any necessary adjustments as
appropriate.

Depreciation and Amortization. The Company's depreciation and amortization is
primarily related to depreciation on capital expenditures and the amortization
of lease and leasehold costs related to its facilities. The Company also
amortized the Smart Power M5 intellectual property it acquired from Advanced
Energy Systems in 2004. Depreciation and amortization totaled approximately
$62,000 and $130,000 for the nine months ended September 30, 2005 and 2004,
respectively. The decrease of $68,000 or 52% is attributable to the decrease in
the remaining net book values of the Company's assets.

Interest and Other Income/Expense, net. The Company's non-operating income and
expenses are primarily attributable to interest income resulting from cash on
hand, accrued dividends on the Company's holdings in the Series A Preferred
stock of Evergreen Solar, Inc. and proceeds from the sale of certain capital
equipment no longer used. Interest and Other Income/Expense, net for the nine
months ended September 30, 2005 was approximately $183,000, compared to
approximately $1,030,000 for the same period in 2004. The decrease of
approximately $847,000 (82%) in 2005 compared to the prior year is the result of
lower interest due to lower cash balances, lower dividends received and lower
capital gains since the Company sold its Evergreen investment in 2004.


<PAGE>


Liquidity and Capital Resources

                                      Nine months ended September 30,
                                           --------------------
                                              2005      2004
                                            -------    -------
                                               (in thousands)
Cash and cash equivalents ...............   $ 3,385    $ 4,509
Working capital .........................     2,318      4,313
Cash provided by (used in)
      Operating activities ..............    (5,321)    (5,830)
      Investing activities ..............    (1,011)     1,401
      Financing activities ..............     4,620         29
                                            -------    -------
Net decrease in cash and cash equivalents   $(1,712)   $(4,400)
                                            =======    =======
Current ratio ...........................       2.1        2.8
                                            =======    =======

The Company's cash requirements depend on many factors, including but not
limited to research and development activities, executing its development
contracts, continued efforts to commercialize products, facilities costs,
general and administrative expenses, costs related to raising additional funding
and costs related to its mergers and acquisitions. Subsequent to the end of the
quarter, the Company obtained the required funding to begin development of its
Smart Energy 25 flywheel, the base component of its Smart Energy Matrix. The
Company will begin full-scale development of its Smart Energy 25 immediately.
For other contemplated flywheel-based systems, the Company will continue to
evaluate market size, growth potential and competitive advantages that its
products could provide and the probable market penetration that could be
achieved. If markets are identified in which the Company believes its flywheel
products will be successful, and those markets express a tangible interest in
the Company's products, the Company will seek to obtain additional funds to
complete prototype development and production of identified products.

The Company does not expect to become profitable or obtain positive operating
cash flow before 2008 and may not achieve positive cash flow even at that point
or beyond.

Based on the Company's rate of expenditure of cash and the additional
expenditures expected in support of its business plan, the Company will require
additional financing to fund:

o        ongoing research and development primarily related to the Smart Energy
         Matrix;
o        working capital requirements;
o        new business development; and
o        potential acquisitions.


Net cash used in operating activities was approximately ($5,321,000) and
($5,779,000) for the nine months ended September 30, 2005 and 2004,
respectively. The primary component to the negative cash flow from operations is
from net losses. For the first nine months of 2005, the Company had a net loss
of approximately ($6,153,000). This included employee stock compensation of
approximately $621,000, facility related cash payments charged against
restructuring reserves of approximately ($258,000), write back of a reserve for
an officer's note that was repaid of approximately ($102,000), proceeds from the
sale of fixed assets, net of reserve of ($24,000), reduction of the amount of
restricted cash of $90,443 and depreciation and amortization of approximately
$62,000. Changes in operating assets and liabilities generated approximately
$442,000 of cash during the first nine months of 2005. For the first nine months
of 2004, the Company had a net loss of approximately ($6,270,000). This included
employee stock compensation of approximately $697,000, facility related cash
payments charged against restructuring reserves of approximately ($258,000),
non-cash dividends received in stock of Evergreen Solar, Inc. of approximately
($90,000), gain on the sale of investments of approximately ($880,000), a
reduction in restricted cash related to the lease of the Company's facility of
approximately $45,000, reductions to the asset impairment reserve for disposed
fixed assets of approximately ($10,000) and depreciation and amortization of
approximately $130,000.

Net cash used in investing activities was approximately ($1,011,000) and
($14,000) for the nine months ended September 30, 2005 and 2004, respectively.
For the first nine months of 2005 the principal uses of cash in investing
activities include ($1,000,000) to invest in NxtPhase, approximately ($40,000)
to purchase capital equipment and sources of investing activities include
$29,000 from the sale of capital equipment. For the first nine months of 2004,
cash used in investing activities was approximately ($14,000) for the purchase
of capital equipment.

Net cash provided by financing activities was approximately $4,620,000 and
$29,000 for the nine months ended September 30, 2005 and 2004, respectively. For
the first nine months of 2005, cash provided by financing activities included
approximately $3,954,000 from the issuance of common stock pursuant to an
investment agreement with Perseus 2000 Expansion, $656,000 related to the
exercise of stock options, expensing of cash paid for financing costs of
approximately 328,000 and approximately $2,000 from the employee stock purchase
plan, offset by approximately ($319,000) to repurchase the Company's stock. For
the first nine months of 2004, the cash provided by financing activities of
approximately $29,000 related to the exercise of stock options in the amount of
approximately $27,000 and shares issued under the employee stock purchase plan
of approximately $2,000.

Based on the Company's planned cash usage rate, inclusive of its recent
investments in 2005, the Company believes it has adequate cash to fund its
operations into 2007. If the Company is successful in completing the acquisition
of NxtPhase its cash needs will increase. Many of NxtPhase's products are in the
early stages of development or production and, as such, NxtPhase does not yet
have revenues sufficient to offset its cost of sales and operating costs.
NxtPhase and its predecessor have incurred losses since their inception. The
Company may not be able to raise these funds, or if it is able to do so, it may
be on terms that are adverse to existing stockholders.

Subsequent to the end of the quarter, on November 8, 2005, the Company
distributed 9,868,421 newly issued shares of its common stock to ten "accredited
investors", as defined in the Securities Act of 1933, as amended. The number of
shares was determined by dividing the gross proceeds of $15 million by a share
price of $1.52, derived by applying a 20% discount to the five-day volume
weighted average price just prior to the closing date. The Company also issued
warrants to purchase an additional 2,960,527 shares of common stock at an
exercise price of $2.21. Each warrant is exercisable for a period of five years
but may not be exercised until six months and one day after the closing of the
transaction. This transaction resulted in net proceeds to the Company of
$14,175,500 net of expenses and commissions in the amount of $824,500. The
Company has agreed to use these proceeds for working capital purposes only. For
further details, please see the Securities Purchase Agreement which was filed as
Exhibit 10.1 to the Company's Current Report on Form 8-K filed on November 7,
2005.

On May 24, 2005 and July 26, 2005, the Company received an investment of $2.9
million in the aggregate from Perseus 2000 Expansion, LLC, an affiliate of one
of the Company's largest shareholders, and in return issued to Perseus 3,452,380
shares of the Company's Common Stock and a warrant to purchase 800,000 shares of
the Company's Common Stock at $1.008 per share. Perseus also paid $0.1 million
for an extension by two years to an existing warrant already held by Perseus.
See Note 1 for more information on this investment. The Company and Perseus
agreed that, due to the proposed acquisition of NxtPhase by the Company, Perseus
would make an investment in NxtPhase and be able to assign its investment
commitment to the Company so that Perseus invests $1 million in the Company and
the Company used such funds to purchase shares of NxtPhase Class A preferred
stock. Perseus invested $1 million in the Company that was then invested by the
Company into NxtPhase in exchange for .2 million shares of NxtPhase Class A
preferred stock. See Note 1 for more information on this investment.

<PAGE>


Certain Factors Affecting Future Operating Results

The following factors, as well as others mentioned in the Company's Annual
Report on Form 10-K for the year ended December 31, 2004, could cause actual
results to differ materially from those indicated by forward-looking statements
made in this Quarterly Report on Form 10-Q:

For the Company's business strategy to be effectively implemented,
demonstrations of its Smart Energy Matrix to NYSERDA and CEC need to be
successful.

     The Company's  business plan focuses on completing  the  development of its
     energy storage solution, the Smart Energy Matrix. As part of this strategy,
     the Company  has entered  into  agreements  with the New York State  Energy
     Research and  Development  Authority  (NYSERDA)  and the  California  State
     Energy  Resources   Conservation   and  Development   Commission  (CEC)  to
     demonstrate the Smart Energy Matrix using a  one-tenth-power  prototype for
     the provision of frequency  regulation services to the electric grid. These
     agreements  allow the  Company to  demonstrate  its highly  responsive  and
     cost-effective  frequency  regulation  prototype for the  electricity  grid
     which is the  first  application  specifically  designed  to  provide  grid
     frequency  regulation.  The  Company  has  shifted  virtually  all  of  its
     development   spending  towards  meeting  the  requirements  of  these  two
     programs. If the Company is not successful in demonstrating the anticipated
     benefits,  completing  development  of  the  Smart  Energy  Matrix  may  be
     significantly delayed and its business strategy may be materially adversely
     affected.

The Company's ability to successfully complete development of its Smart Energy
Matrix will require substantial funds. Its stockholders may be adversely
affected if the Company issues debt securities or additional equity securities
to obtain financing.

     The  Company  will  require  substantial  funds  to  conduct  research  and
     development  activities,  market its products and services and increase its
     revenues.  The Company  anticipates  that such funds will be obtained  from
     external  sources  and  intends to seek  additional  equity or debt to fund
     future  operations.  The Company  raised $15 million in funding  through an
     equity  offering  dated as of  November  8,  2005.  Further  equity or debt
     funding  of  approximately   $15  million  will  be  required  to  complete
     development of the Smart Energy Matrix.

     The Company's actual capital  requirements will depend on many factors.  If
     the Company  experiences  unanticipated cash  requirements,  it may need to
     seek additional sources of funding sooner than anticipated. Such additional
     funding,  if  available,  may only be  available  on terms  that  may,  for
     example,  cause  dilution to common  stockholders  and/or have  liquidation
     preferences  and/or  pre-emptive  rights.  If the Company raises additional
     funds by issuing debt securities or additional equity securities,  existing
     stockholders  may be  adversely  affected  because new  investors  may have
     rights superior to current  stockholders  and current  stockholders  may be
     diluted.

     If the Company does not succeed in raising  additional  funds on acceptable
     terms,  it may be unable to complete  planned  development for its products
     and services. In addition, the Company could be forced to take unattractive
     steps, such as discontinuing product development,  limiting the services it
     may offer, reducing or foregoing sales and marketing efforts and attractive
     business opportunities, or discontinuing operations entirely.

     The Company  expects that it will be several years before it will recognize
     significant revenues from the products it intends to offer and the services
     it intends to provide. A large portion of its expenses are fixed, including
     expenses related to facilities,  equipment and personnel.  In addition,  it
     expects to spend significant  amounts to fund product  development based on
     its core  technologies.  The  Company  also  expects  to incur  substantial
     expenses to manufacture its Smart Energy Matrix product in the future. As a
     result, operating expenses may increase significantly over the next several
     years and,  consequently,  the Company  will need to  generate  substantial
     commercial  revenue  to  achieve  profitability.  Even if it  does  achieve
     profitability,  the  Company  may  not  be  able  to  sustain  or  increase
     profitability on a consistent basis.

The Company faces significant technical challenges in completing the development
of its Smart Energy Matrix. The Company may fail to develop its 25kWh generation
flywheel system, which is a critical requirement for the development of the
Smart Energy Matrix, and even if it is able to develop the 25kWh system, it may
fail to develop the Smart Energy Matrix.

     The  successful  development  of the Company's new Smart Energy 25 flywheel
     system,  which is the flywheel system that will be used in the Smart Energy
     Matrix, involves significant  technological and cost challenges.  There can
     be no  assurance  that the  Company  will be  successful  in meeting  these
     challenges.  In addition,  even if the Company is able to develop the Smart
     Energy 25 flywheel system,  it plans to integrate  multiple 25kWh flywheels
     into a common  building or container  to produce its Smart  Energy  Matrix.
     This  effort  will  pose  significant  technological  and  cost  challenges
     including, among others:

     o    it  may  take  longer  to  develop  cost  effective  designs  for  key
          components  of the Smart Energy Matrix such as the rim,  motor,  power
          electronics and bearing system, and the master controller software;

     o    development  and  production  delays  and/or cost  increases may occur
          because  the  Company  relies  on  single-source  suppliers  to supply
          several key  components  to meet its  engineering  requirements,  cost
          objectives and  development  and production  schedules and the Company
          does not have contracts with all of these suppliers;

     o    The Company's  ability to develop cost  effective  designs on schedule
          that will meet system performance requirements such as:

          o    a rotor-cooling scheme to avoid overheating during operation;

          o    cost effective bearings to ensure acceptable  vibration levels at
               all speeds; and

          o    a touchdown bearing system to stabilize the rotor during abnormal
               conditions such as an earthquake;

     o    the ability to ramp up and maintain production rates; and

     o    quality and cost control from key suppliers.

The Company has a history of losses and anticipates future losses and will have
limited revenues in the near term. Unless it raises additional capital to
operate its business, it may not be able to continue as a going concern.

     The Company has  incurred  significant  losses  from  operations  since its
     inception.  As shown in its consolidated financial statements,  it incurred
     significant   losses  from   operations  of   $9,049,000,   $9,138,000  and
     $20,867,000 and cash decreases of $3,812,000,  $8,957,000 and  $16,335,000,
     during the years ended  December  31,  2004,  2003 and 2002,  respectively.
     Additionally,  the Company reported losses of $ 6,153,223  through the nine
     months  ending  September  30,  2005 and a decrease  in cash of $ 1,713,000
     through September 30, 2005. The Company is unsure if or when it will become
     profitable.

     The  Company  had  $3,384,515  of  cash  and  cash  equivalents  on hand at
     September  30,  2005.  Based on the  Company's  planned  cash  usage  rate,
     inclusive of its recent  investments in 2005,  the Company  believes it has
     adequate cash to fund its operations into 2007.

     Miller Wachman, LLP, the Company's  independent  auditors,  has included an
     explanatory paragraph related to a going concern uncertainty in their audit
     report on the Company's  consolidated  financial  statements for the fiscal
     year ended December 31, 2004, which states that "Beacon's  recurring losses
     from operations and negative cash flows raise  substantial  doubt about its
     ability to continue as a going concern."

     The  Company's  financial  statements  have been prepared on the basis of a
     going  concern,  which  contemplates  the  realization  of  assets  and the
     satisfaction  of liabilities in the normal course of business.  The Company
     has not made any adjustments to its financial statements as a result of the
     going  concern  uncertainty.  If the  Company  cannot  continue  as a going
     concern, it may have to liquidate its assets and may receive  significantly
     less than the values at which they are carried on its financial statements.
     Any  shortfall in the  proceeds  from the  liquidation  of its assets would
     directly  reduce the amounts  that  holders of the  Company's  common stock
     could receive in liquidation.

The Company's lack of profits and positive cash flows may negatively  impact its
ability to obtain customers.

     Although  the  Company  intends to provide  frequency  regulation  services
     directly, it may also sell its Smart Energy Matrix product to customers. In
     that event,  the  Company's  history of losses and negative  cash flows may
     adversely  impact its ability to  successfully  attract  customers  for its
     products  because of potential  customer's  perception that the Company may
     not be able to provide product support and warranty coverage in the future.

Competitors in the frequency regulation market include established utilities and
independent service providers with far greater resources than the Company.

     The Company believes that it will be able to provide  frequency  regulation
     services using its Smart Energy Matrix at lower cost than other  providers.
     However,   this  market  is  being  served  by  well-known   utilities  and
     independent service providers that use conventional generators. The Company
     will be competing with these  established  generators that have far greater
     resources than it does.  Companies that are currently  providing  frequency
     regulation include Allegheny Energy Supply Company, Commonwealth Chesapeake
     Company,  Dominion  Virginia  Power,  Ingenco  Wholesale  Power,  NRG Power
     Marketing and Reliant Energy Services.

Although the market for frequency  regulation services is large and growing, the
Company has not demonstrated its ability to sell into that market.

     The Company  intends to provide  frequency  regulation  services  using its
     Smart  Energy  Matrix  in the spot or  auction  markets  of  regional  grid
     operators.  In order to bid in these  markets,  one must be qualified to do
     so. The Company expects to receive the necessary approvals, but there is no
     assurance it will be successful.

The Company's financial  performance could be adversely affected if it is unable
to retain key executive officers.

     Because  its future  success  depends to a large  degree on the  management
     provided by the  executive  officers,  the Company's  competitiveness  will
     depend  significantly  on whether it can  retain  members of its  executive
     team. There can be no assurance that it will be successful in retaining its
     executive  officers.  The Company has  employment  agreements  with Messrs.
     Spiezio, Vice President of Finance, Chief Financial Officer,  Treasurer and
     Secretary; and Lazarewicz,  Vice President and Chief Technical Officer. The
     employment  agreement  between the Company and Mr. Capp, CEO and President,
     expired on December 31, 2004. Negotiations between Mr. Capp and the Company
     are ongoing.  There can be no assurance  that an agreement  will be reached
     with Mr. Capp.

Market  volatility  may affect  the  Company's  stock  price and the value of an
investment in its common stock may be subject to sudden decreases.

     The trading price for the  Company's  common stock has been and is expected
     to continue to be volatile.  The price at which the Company's  common stock
     trades  depends  upon a number of factors,  including  its  historical  and
     anticipated  operating  results,  market  perception  of the  prospects for
     companies in its industry and general market and economic conditions,  some
     of which are beyond the Company's control.  The high and low closing prices
     per share of the Company's  common stock on the NASDAQ  Capital Market were
     $1.50 and $0.14, respectively,  in 2002, $1.54 and $0.16, respectively,  in
     2003,  $1.72  and  $0.25,  respectively,  in  2004  and  $4.74  and  $0.62,
     respectively,  in this year through  September 30, 2005.  The average daily
     trading volume of its common stock on the NASDAQ Capital Market was 135,300
     shares  in 2002,  1,295,400  shares in 2003,  1,259,700  shares in 2004 and
     1,580,500 shares this year through  September 30, 2005.  During August 2005
     the daily trading volume was significantly  higher; on August 8, 2005, more
     than 29 million  shares were traded.  During  periods of stock market price
     volatility,  share prices of many companies in the Company's  industry have
     often  fluctuated in a manner not necessarily  related to their  individual
     operating performance. The Company's common stock may be subject to greater
     price volatility than the stock market as a whole.

The  Company  has  anti-takeover   defenses  that  could  delay  or  prevent  an
acquisition  and changes in control in its board of directors and management and
could adversely affect the price of its common stock.

     Provisions  of the  Company's  Sixth  Amended and Restated  Certificate  of
     Incorporation,  the Company's amended and restated  by-laws,  the Company's
     Rights Agreement,  adopted in September 2002 and subsequently  amended, and
     Delaware  law may have the effect of  deterring  unsolicited  takeovers  or
     delaying  or  preventing  changes in control of its  management,  including
     transactions in which its  stockholders  might otherwise  receive a premium
     for their  shares over then  current  market  prices.  In  addition,  these
     provisions may limit the ability of  stockholders  to approve  transactions
     that they may deem to be in their best interest.

     The  Company's  Sixth  Amended and Restated  Certificate  of  Incorporation
     permits its board of directors to issue preferred stock without stockholder
     approval  upon such  terms as the board of  directors  may  determine.  The
     rights of the holders of the Company's common stock will be subject to, and
     may be adversely  affected  by, the rights of the holders of any  preferred
     stock that may be issued in the future.

     The Company's Sixth Amended and Restated  Certificate of Incorporation also
     provides  for a staggered  board of directors  divided into three  classes.
     Such a staggered  board of directors  will make it more  difficult  for the
     Company's  stockholders to change the composition of the board of directors
     in any one year,  which could have the effect of  preventing  or delaying a
     change of control  transaction  that is not approved by the Company's board
     of directors.

     In  addition,  the  Company's  Sixth  Amended and Restated  Certificate  of
     Incorporation and its amended and restated by-laws provide that:

     o    its  directors  may only be  removed  for cause by a  majority  of the
          outstanding  capital  stock  entitled  to  vote  in  the  election  of
          directors;

     o    its  stockholders  do not have the power to call  special  meetings of
          stockholders; and

     o    the provisions relating to the classified board,  removal of directors
          and calling of special stockholders  meetings may only be amended by a
          66  2/3%  vote of the  outstanding  shares  of  common  stock,  voting
          together as a single class.

     These  provisions make it more difficult for the Company's  stockholders to
     change the  composition of the board of directors and approve  transactions
     they may deem to be in their best  interests  that are not  approved by the
     board of directors.

     Pursuant to a Rights  Agreement  adopted in September 2002 and subsequently
     amended, the Company issued rights as a dividend on common stock on October
     7, 2002 each of which entitles the holder to purchase 1/100th of a share of
     newly  issued  preferred  stock for $22.50 in the event that any person not
     approved by the board of directors  acquires more than 15% (35% in the case
     of one large shareholder,  Perseus Capital, L.L.C. and its affiliates, that
     already owned more than 15%) of the Company's  outstanding common stock, or
     in the event of an  acquisition  by another  company,  $22.50  worth of the
     common  stock of the other  company at half its market  value (in each case
     the rights  held by the  acquiring  person are not  exercisable  and become
     void).

The Company's common stock may be removed from The NASDAQ Capital Market,  which
could cause the price to fall further and decrease its liquidity.

     The Company's common stock trades on The NASDAQ Capital Market. To continue
     trading  on The  NASDAQ  Capital  Market,  it must  comply  with The NASDAQ
     Capital Market's continued listing  requirements set forth in Rule 4310(c),
     which  require,  among other  things,  that the Company  maintain a minimum
     closing bid price of $1.00 per share.

     If the Company  does not  continue to satisfy  NASDAQ's  continued  listing
     requirements, its common stock may be delisted. The delisting of its common
     stock  may  result  in the  trading  of the  stock on the  over-the-counter
     markets in the so-called  "pink sheets" or the NASD's  electronic  bulletin
     board. Consequently,  a delisting of the Company's common stock from NASDAQ
     would materially  reduce the liquidity of its common stock, not only in the
     number of shares that could be bought and sold,  but also through delays in
     the timing of the  transaction  and  reductions in securities  analysts and
     media  coverage.  This may reduce the  demand for the  Company's  stock and
     significantly  destabilize the price of its stock. In addition, a delisting
     would materially adversely affect the Company's ability to raise additional
     necessary capital.



<PAGE>


Failure  to  protect  the  Company's  intellectual  property  could  impair  its
competitive position.

     Although it is unaware of any challenges to its intellectual  property, the
     Company cannot provide  assurance that it has or will be able to maintain a
     significant  proprietary  position  on the basic  technologies  used in its
     flywheel  systems.  The Company's  ability to compete  effectively  against
     alternative  technologies  will  be  affected  by its  ability  to  protect
     proprietary technology,  systems designs and manufacturing  processes.  The
     Company  does  not  know  whether  any  of its  pending  or  future  patent
     applications  under  which it has  rights  will  issue,  or, in the case of
     patents  issued or to be  issued,  that the claims  allowed  are or will be
     sufficiently broad to protect its technology or processes from competitors.
     Even if all of its patent  applications  are  issued  and are  sufficiently
     broad,  they may be  challenged  or  invalidated.  The Company  could incur
     substantial costs in prosecuting or defending patent infringement suits and
     such  suits  would  divert  funds and  resources  that could be used in its
     business.  Further, its competitors or others may independently  develop or
     patent  technologies  or processes  that are  substantially  equivalent  or
     superior to those of the Company.

Ongoing  compliance with the  Sarbanes-Oxley  Act of 2002 may require additional
personnel or systems changes. Any weaknesses identified in its internal controls
could have an adverse effect on the Company's business.

     Section  404 of the  Sarbanes-Oxley  Act of 2002  requires  that  companies
     evaluate and report on their  systems of internal  control  over  financial
     reporting.  The  Company is in the process of  documenting  and testing its
     system of internal  control over  financial  reporting to provide the basis
     for its  report.  At this time,  the  Company  is aware that its  financial
     reporting information systems and point-of-sale information systems require
     a significant level of manual controls to ensure the accurate  reporting of
     its results of operations  and financial  position.  Upon the completion of
     its  review,  certain  deficiencies  may be  discovered  that will  require
     remediation.  This  remediation may require the  implementation  of certain
     information  systems operating protocols and/or additional manual controls,
     the costs of which could have a material  adverse  effect on its  business,
     financial  condition  and  results  of  operations.   Due  to  the  ongoing
     evaluation and testing of the Company's internal controls,  there can be no
     assurance  that  there  may not be  significant  deficiencies  or  material
     weaknesses that would be required to be reported.

Government regulation may impair the Company's ability to market its products.

     Government  regulation of the Company's  products,  whether at the federal,
     state or local level may increase the cost and price of its systems and may
     have a negative  impact on the  Company's  revenue and  profitability.  The
     Company cannot  provide  assurance that its products will not be subject to
     existing or future  federal  and state  regulations  governing  traditional
     electric utilities and other regulated entities.  The Company does not know
     the extent to which any existing or new  regulations may impact its ability
     to distribute, install and service its products.

Product  liability  claims  against  the  Company  could  result in  substantial
expenses  and  negative  publicity  that could  impair  successful  marketing of
products.

     The Company's  business  exposes it to potential  product  liability claims
     that   are   inherent   in  the   manufacture,   marketing   and   sale  of
     electro-mechanical products and, as such, it may face substantial liability
     for damages  resulting from the faulty design or manufacture of products or
     improper use of products by end users. The Company cannot provide assurance
     that its product liability  insurance will provide  sufficient  coverage in
     the event of a claim.  Also, it cannot  predict  whether it will be able to
     maintain such coverage on  acceptable  terms,  if at all, or that a product
     liability  claim  would  not  materially  adversely  affect  its  business,
     financial condition or the price of its common stock. In addition, negative
     publicity  in  connection  with the  faulty  design or  manufacture  of the
     Company's  products would  adversely  affect its ability to market and sell
     its products.

Safety failures by the Company's  flywheel  products or those of its competitors
could reduce market demand or  acceptance  for flywheel  services or products in
general.

     A serious accident involving either the Company's flywheels or competitors'
     similar products could be a significant  deterrent to market acceptance and
     adversely  affect  the  Company's  financial  performance.   There  is  the
     possibility of accident with any form of energy storage. In particular,  if
     a metal  flywheel  fails and the stored  energy is  released,  the flywheel
     could break into  fragments  that could be ejected at a high rate of speed.
     However, the Company's flywheels are based on a composite design so that in
     the event of a failure,  its  flywheel is expected to fail in a more benign
     manner.

If it acquires NxtPhase, the Company will issue a fixed number of shares of its
common stock in the plan of arrangement, regardless of the stock's market
fluctuations prior to the effective date of the plan of arrangement. The value
of Beacon common stock and of NxtPhase shares will fluctuate and may decline or
increase, each independent of movements of value of the other company.

     Pursuant to the terms of the arrangement agreement, the number of shares of
     the Company's common stock to be issued is fixed.  There is no mechanism to
     adjust the  exchange  ratio  based on  changes  in the market  price of the
     Company's  common stock or in the value of NxtPhase.  Furthermore,  neither
     NxtPhase  nor the  Company  is  permitted  to  withdraw  from  the  plan of
     arrangement  solely because of changes in the market price of Beacon common
     stock or the value of NxtPhase shares.


The Company and NxtPhase expect to incur  significant  costs associated with the
plan of arrangement.

     If it acquires  NxtPhase,  the Company  estimates that it will incur direct
     transaction  costs of approximately  $1,170,000,  of which $938,000 will be
     capitalized  for  accounting  purposes  and  $232,000  will be  expensed as
     incurred. The combined company may also incur charges to operations,  which
     they cannot currently reasonably estimate, in the quarter in which the plan
     of  arrangement  is completed or the following  quarters,  to reflect costs
     associated with  integrating  the two companies.  There can be no assurance
     that the combined company will not incur  additional  charges in subsequent
     periods due to the combination.


The  Company  may not realize  all of the  benefits  it expects  from  acquiring
NxtPhase.

     If it acquires NxtPhase,  the benefits realized by the Company will depend,
     in part,  on the  Company's  ability to take  advantage of the  anticipated
     opportunities  resulting  from offering a  diversified  set of products and
     services  for a more  reliable  and stable  grid,  from  utilizing  broader
     technological  and  product   engineering  skills  and  from  being  better
     positioned to raise capital. It is possible that the Company will be unable
     realize all of these benefits.


<PAGE>


Item 3.  Quantitative and Qualitative Disclosure about Market Risk

The Company's cash equivalents and investments, all of which have maturities of
less than one year, may expose the Company to interest rate risk but not to
market risk of principal. At September 30, 2005, the Company had approximately
$60,000 of cash equivalents that were held in non-interest bearing accounts.
Also at September 30, 2005, the Company had approximately $765,000 of cash
equivalents that were held in interest bearing checking accounts and $2,559,000
invested in interest-bearing money market accounts. The Company's exposure to
market risk through financial instruments is not material.

Item 4.  Controls and Procedures

The Company's management, with the participation of its chief executive officer
and chief financial officer, has evaluated the effectiveness of its disclosure
controls and procedures (as defined in Rule 13a-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 Form 10-Q. Based on that evaluation, the chief
executive officer and chief financial officer have concluded that the Company's
disclosure controls and procedures are effective in enabling the Company to
record, process, summarize and report information required to be included in its
periodic SEC filings within the required time period. Disclosure controls and
procedures include, without limitation, controls and procedures designed to
ensure that information required to be disclosed by a company in the reports
that it files or submits under the Exchange Act is accumulated and communicated
to the Company's management, including its principal executive and principal
financial officers, as appropriate to allow timely decisions regarding required
disclosure. Management recognizes that any controls and procedures, no matter
how well designed and operated, can provide only reasonable assurance of
achieving their objectives and management necessarily applies its judgment in
evaluating the cost-benefit relationship of possible controls and procedures.
Based on the evaluation of the Company's disclosure controls and procedures as
of September 30, 2005, the Company's chief executive officer and chief financial
officer concluded that, as of such date, the Company's disclosure controls and
procedures were effective at the reasonable assurance level.

In addition, the Company's management, with the participation of its chief
executive officer and chief financial officer, has evaluated whether any change
in the Company's internal control over financial reporting (as defined in Rule
13a-15(f) under the Securities Exchange Act of 1934) occurred during the period
covered by this Quarterly Report on Form 10-Q. Based on that evaluation, the
chief executive officer and chief financial officer have concluded that there
has been no change in the Company's internal control over financial reporting
during the period covered by this Quarterly Report on Form 10-Q that has
materially affected, or is reasonably likely to materially affect, its internal
control over financial reporting.


<PAGE>



                                     PART II

Item 1.  Legal Proceedings

None

Item 2.  Unregistered Sales of Equity Securities and Use of Proceeds

None.

Item 3.  Defaults Upon Senior Securities

None.

Item 4.  Submission of Matters to a Vote of Security Holders

None.

Item 5.  Other Information

None.




<PAGE>


Item 6.  Exhibits

     Exhibit
     Number        Description of Document

          2.1 (1)  Arrangement Agreement and Plan of Arrangement, dated April
                   22, 2005, by and among the Company, Beacon Acquisition Co.
                   and NxtPhase T&D Corporation.

          3.1 (2)  Sixth Amended and Restated Certificate of Incorporation of
                   the Company.

          3.2 (2)  Amended and Restated Bylaws of the Company.

          4.1 (2)  Rights Agreement dated September 25, 2002 between the Company
                   and EquiServe Trust Company, N.A.

          4.2 (4)  Amendment No. 1 to Rights Agreement dated December 27,
                   2002 between the Company and EquiServe Trust Company, N.A.

        10.1.1(2)  Securities Purchase Agreement dated May 23, 2000 among the
                   Company, Perseus Capital, L.L.C., DQE Enterprises, Inc.,
                   Micro-Generation Technology Fund, L.L.C., Mechanical
                   Technology Incorporated, GE Capital Equity Investments, Inc.,
                   The Beacon Group Energy Investment Fund II, L.P. and Penske
                   Corporation.

        10.1.2(2)  Warrant of the Company dated October 24, 2000 issued to GE
                   Capital Equity Investments, Inc.

        10.1.3(2)  Second Amended and Restated 1998 Stock Incentive Plan of the
                   Company.

        10.1.4(2)  Form of Incentive Stock Option Agreement of the Company.

        10.1.5(2)  Form of Non-Qualified Stock Option Agreement of the Company.

        10.1.6(2)  Form of Non-Qualified Stock Option Agreement of the Company
                   issued to certain consultants on July 24, 2000 and list of
                   holders thereof.

        10.1.7(2)  Amended and Restated License Agreement dated October 23, 1998
                   between the Company and SatCon Technology Corporation.

        10.1.8(2)  Lease dated July 14, 2000 between the Company and BCIA New
                   England Holdings LLC.

        10.1.9(2)  Letter Agreement dated October 24, 2000 among the Company, GE
                   Capital Equity Investments, Inc. and GE Corporate Research
                   and Development.

      10.1.10(12)  Form of Director and Officer Indemnification Agreement of the
                   Company.

       10.1.11(5)  Employment Agreement dated April 25, 2004 between the Company
                   and Matthew L. Lazarewicz.

       10.1.12(4)  Employment Agreement dated October 25, 2002 between the
                   Company and James M. Spiezio.

       10.1.13(6)  Form of Restricted Stock Unit Agreement of the Company.

       10.1.14(7)  Agreement dated January 31, 2005 between the Company and the
                   New York State Energy Research and Development Authority.

       10.1.15(8)  Agreement dated January 31, 2005 between the Company and
                   California State Energy Resources Conservation and
                   Development Commission.

       10.1.16(5)  Amendment to Employment Agreement dated March 30, 2005
                   between the Company and Matthew L. Lazarewicz.

      10.1.17 (1)  Form of NxtPhase Shareholder Agreement.

      10.1.18 (1)  Investment Agreement dated as of April 22, 2005 among the
                   Company, Perseus Capital, L.L.C. and Perseus 2000 Expansion
                   Fund, L.L.C.

      10.1.19 (9)  Warrant of the Company dated May 24, 2005 issued to Perseus
                   2000 Expansion Fund, L.L.C.

      10.1.20 (9)  Amended and Restated Warrant of the Company dated May 24,
                   2005 issued to Perseus Capital, L.L.C.

      10.1.21 (9)  Registration Rights Agreement dated May 24, 2005 between the
                   Company and Perseus 2000 Expansion Fund, L.L.C.

      10.1.22(10)  Securities Purchase Agreement between NxtPhase T&D
                   Corporation, the Company and Perseus 2000 Expansion, L.L.C.,
                   dated as of June 13, 2005

      10.1.23(10)  Joinder Agreement for the Investor Rights Agreement executed
                   by the Company on June 13, 2005

      10.1.24(10)  Warrant issued by the Company to Perseus 2000 Expansion,
                   L.L.C. on June 13, 2005

     10.1.25 (11)  Securities Purchase Agreement between NxtPhase T&D
                   Corporation, the Company and Perseus 2000 Expansion, L.L.C.,
                   dated as of July 21, 2005

      10.1.26(11)  Warrant issued by the Company to Perseus 2000 Expansion,
                   L.L.C. on July 21, 2005.

     10.1.27 (13)  First Amendment to Arrangement Agreement dated as of
                   September 27, 2005 among the Company, Beacon Acquisition Co.
                   and NxtPhase T&D Corporation.

     10.1.28 (14)  Agreement between the Company and the Air Force Research
                   Laboratory, dated October 7, 2005.

     10.1.29 (15)  Securities Purchase Agreement among the Company and various
                   purchasers dated November 4, 2005.

     10.1.30 (15)  Form of Warrant among the Company and various purchasers
                   dated November 4, 2005.

        31.1  +    Principal Executive Officer--Certification pursuant to
                   Section 302 of the Sarbanes-Oxley Act of 2002.

        31.2  +    Principal Financial Officer--Certification pursuant to
                   Section 302 of the Sarbanes-Oxley Act of 2002.

        32.1  +    Principal Executive Officer--Certification pursuant to
                   Section 906 of the Sarbanes-Oxley Act of 2002.

        32.2  +    Principal Financial Officer--Certification pursuant to
                   Section 906 of the Sarbanes-Oxley Act of 2002

(1)      Incorporated by reference from the Form 8-K filed on April 25, 2005
         (File No. 001-16171).
(2)      Incorporated by reference from the Form S-1 filed on November 16, 2000
         (File No. 333-43386).
(3)      Incorporated by reference from the Form 8-K filed on October 4, 2002
         (File No. 001-16171).
(4)      Incorporated by reference from the Form 10-K filed on June 30, 2003
         (File No. 001-16171).
(5)      Incorporated by reference from the Form 10-K filed on March 31, 2005
         (File No. 001-16171).
(6)      Incorporated by reference from the Form 10-K/A filed on May 17, 2004
         (File No. 001-16171).
(7)      Incorporated by reference from the Form 8-K filed on February 14, 2005
         (File No. 001-16171).
(8)      Incorporated by reference from the Form 8-K filed on February 16, 2005
         (File No. 001-16171).
(9)      Incorporated by reference from the Form 8-K filed on May 26, 2005
         (File No. 001-16171).
(10)     Incorporated by reference from the Form 8-K filed on June 17, 2005
         (File No. 001-16171).
(11)     Incorporated by reference from the Form 8-K filed on July 26, 2005
         (File No. 001-16171).
(12)     Incorporated by reference from the Form 10-Q filed on August 12, 2005
         (File No. 001-16171).
(13)     Incorporated by reference from the Form 8-K filed on October 3, 2005
         (File No. 001-16171).
(14)     Incorporated by reference from the Form 8-K filed on October 13, 2005
         (File No. 001-16171).
(15)     Incorporated by reference from the Form 8-K filed on November 7, 2005
         (File No. 001-16171).
+        Filed herewith.


<PAGE>
                                   SIGNATURES

Pursuant to the requirements of Section 13 of the Securities Exchange Act of
1934, the Registrant has duly caused this report to be signed on its behalf by
the undersigned thereunto duly authorized.

                            BEACON POWER CORPORATION

                  Date:  November 14, 2005      By:  /s/ F. William Capp
                                                     -------------------
                                                     F. William Capp
                                                     President and Chief
                                                     Executive Officer
                                                     Principal Executive Officer


                         November 14, 2005      By:  /s/ James M. Spiezio
                                                     -------------------
                                                     James M. Spiezio
                                                     Vice President of Finance,
                                                     Chief Financial Officer,
                                                     Treasurer and Secretary
                                                    Principal Financial Officer