Table of Contents





|                                   |           | 
|---------------------------------- | --------- | 
|UNITED STATES                     
|SECURITIES AND EXCHANGE COMMISSION
|Washington, D.C. 20549            
|                                   |           | 
|                                   |           | 
|                                   | FORM 10-Q | 
|                                   |           | 

|                                                                                                  |                                                                                         
|------------------------------------------------------------------------------------------------- | ----------------------------------------------------------------------------------------
|(Mark One)                                                                                       
|                                                                                                  |                                                                                         
|x                                                                                                 | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934 
|                                                                                                  |                                                                                         
|For the quarterly period
ended September 30, 2010                                                
|                                                                                                  |                                                                                         
|OR                                                                                               
|o                                                                                                 | 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: | 001-31588 | 

|                                                       |  | 
|------------------------------------------------------ |  | 
|                                                       |  | 
|                                                       |  | 
|COMMUNICATIONS SYSTEMS, INC.                          
|(Exact
name of registrant as specified in its charter)

| |                                          |                     | 
| | ---------------------------------------- | ------------------- | 
| | MINNESOTA                                | 41-0957999          | 
| | (State
or other jurisdiction of          | (Federal
Employer   | 
| | incorporation
or organization)           | Identification
No.) | 
| |                                          |                     | 
| | 10900
Red Circle Drive, Minnetonka, MN   | 55343               | 
| | (Address
of principal executive offices) | (Zip
Code)          | 

|                                                   |  | 
|-------------------------------------------------- |  | 
|(952 ) 996-1674                                   
|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  o

Indicate by check mark
whether the registrant has submitted electronically and posted on its corporate
Web site, if any, every Interactive Data File required to be submitted and
posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months
(or for such shorter period that the registrant was required to submit and post
such files). YES  o  NO  o

Indicate by a check mark
whether the registrant is a large accelerated filer, an accelerated filer, a
non-accelerated filer, or a smaller reporting company (as defined by Rule 12b-2
of the Exchange Act).

Large Accelerated Filer o Accelerated Filer o Non-Accelerated Filer o Smaller Reporting Company x

Indicate by check mark
whether the registrant is a shell company (as defined in Rule 12b-2 of the
Exchange Act. YES  o  NO  x

|                                                                                                                              |  |                                      |  |                                
|----------------------------------------------------------------------------------------------------------------------------- |  | ------------------------------------ |  | -------------------------------
|APPLICABLE ONLY TO CORPORATE ISSUERS:                                                                                        
|Indicate the number of
shares outstanding of each of the issuers classes of common stock, as of the
latest practicable date.
|                                                                                                                              |  |                                      |  |                                
|                                                                                                                              |  |                                      |  |                                
|Class                                                                                                                         |  | Name of Exchange
On Which Registered |  | Outstanding at November 1, 2010
|Common
Stock, par value                                                                                                       |  | NASDAQ                               |  | 8,401,891                      
|$.05
per share                                                                                                                |  |                                      |  |                                







|                                              |                                                                                               |    |          | 
|--------------------------------------------- | --------------------------------------------------------------------------------------------- | -- | -------- | 
|COMMUNICATIONS SYSTEMS, INC. AND SUBSIDIARIES
|                                             
|INDEX                                        
|                                             
|                                             
|                                              |                                                                                               |    | Page No.
|                                              |                                                                                               |    |          | 
|Part I.                                       | Financial
Information                                                                         |    |          | 
|                                              |                                                                                               |    |          | 
|                                              | Item 1.
Financial Statements (Unaudited)                                                      |    |          | 
|                                              |                                                                                               |    |          | 
|                                              | Condensed Consolidated Balance Sheets                                                         |    | 3        | 
|                                              |                                                                                               |    |          | 
|                                              | Condensed Consolidated Statements of Income and Comprehensive Income
(Loss)                   |    | 4        | 
|                                              |                                                                                               |    |          | 
|                                              | Condensed Consolidated Statement of Changes in Stockholders Equity                           |    | 5        | 
|                                              |                                                                                               |    |          | 
|                                              | Condensed Consolidated Statements of Cash Flows                                               |    | 6        | 
|                                              |                                                                                               |    |          | 
|                                              | Notes to Condensed Consolidated Financial Statements                                          |    | 7        | 
|                                              |                                                                                               |    |          | 
|                                              | Item 2. Managements Discussion and Analysis of Financial Condition
and Results of Operations |    | 15       | 
|                                              |                                                                                               |    |          | 
|                                              | Item 3. Quantitative and Qualitative Disclosures about Market Risk                            |    | 23       | 
|                                              |                                                                                               |    |          | 
|                                              | Item 4. Controls and Procedures                                                               |    | 23       | 
|                                              |                                                                                               |    |          | 
|Part II. Other Information                    |                                                                                               | 23 |         
|                                              |                                                                                               |    |          | 
|SIGNATURES                                    |                                                                                               |    |         
|                                              |                                                                                               |    |          | 
|CERTIFICATIONS                                |                                                                                               |    |         

2

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Table of Contents

COMMUNICATIONS SYSTEMS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(Unaudited)

|                                                                                                                                          |  |                   |             |                  |   |             |  
|----------------------------------------------------------------------------------------------------------------------------------------- |  | ----------------- | ----------- | ---------------- | - | ----------- | -
|                                                                                                                                          |  | September
30
2010 |             | December
31
2009 |  
|ASSETS                                                                                                                                   
|CURRENT ASSETS:                                                                                                                           |  |                   |             |                  |   |             |  
|Cash and cash equivalents                                                                                                                 |  | $                 | 14,366,182  |                  | $ | 21,293,448  |  
|Investments                                                                                                                               |  |                   | 20,376,894  |                  |   | 11,236,940  |  
|Trade accounts receivable, less allowance for doubtful accounts of
$440,000 and $505,000, respectively                                    |  |                   | 20,355,084  |                  |   | 15,042,411  |  
|Inventories                                                                                                                               |  |                   | 24,289,383  |                  |   | 24,598,317  |  
|Prepaid income taxes                                                                                                                      |  |                   | 0           |                  |   | 337,274     |  
|Other current assets                                                                                                                      |  |                   | 1,397,990   |                  |   | 884,555     |  
|Deferred income taxes                                                                                                                     |  |                   | 4,165,028   |                  |   | 3,574,501   |  
|TOTAL CURRENT ASSETS                                                                                                                      |  |                   | 84,950,561  |                  |   | 76,967,446  |  
|PROPERTY, PLANT AND EQUIPMENT, net                                                                                                        |  |                   | 13,066,688  |                  |   | 13,321,825  |  
|OTHER ASSETS:                                                                                                                             |  |                   |             |                  |   |             |  
|Investments                                                                                                                               |  |                   | 5,346,095   |                  |   | 7,538,903   |  
|Goodwill                                                                                                                                  |  |                   | 4,560,217   |                  |   | 4,560,217   |  
|Prepaid pensions                                                                                                                          |  |                   | 354,028     |                  |   | 399,743     |  
|Other assets                                                                                                                              |  |                   | 119,997     |                  |   | 125,560     |  
|TOTAL OTHER ASSETS                                                                                                                        |  |                   | 10,380,337  |                  |   | 12,624,423  |  
|TOTAL ASSETS                                                                                                                              |  | $                 | 108,397,586 |                  | $ | 102,913,694 |  
|                                                                                                                                          |  |                   |             |                  |   |             |  
|LIABILITIES AND STOCKHOLDERS EQUITY                                                                                                     
|CURRENT LIABILITIES:                                                                                                                      |  |                   |             |                  |   |             |  
|Current portion of long-term debt                                                                                                         |  | $                 | 392,470     |                  | $ | 372,926     |  
|Accounts payable                                                                                                                          |  |                   | 4,564,999   |                  |   | 4,986,028   |  
|Accrued compensation and benefits                                                                                                         |  |                   | 3,929,399   |                  |   | 4,855,899   |  
|Other accrued liabilities                                                                                                                 |  |                   | 1,618,855   |                  |   | 1,370,105   |  
|Income taxes payable                                                                                                                      |  |                   | 1,548,553   |                  |   | 0           |  
|Dividends payable                                                                                                                         |  |                   | 1,259,940   |                  |   | 1,169,040   |  
|TOTAL CURRENT LIABILITIES                                                                                                                 |  |                   | 13,314,216  |                  |   | 12,753,998  |  
|                                                                                                                                          |  |                   |             |                  |   |             |  
|LONG TERM LIABILITIES:                                                                                                                    |  |                   |             |                  |   |             |  
|Long-term compensation plans                                                                                                              |  |                   | 1,398,707   |                  |   | 887,210     |  
|Income taxes payable                                                                                                                      |  |                   | 727,209     |                  |   | 723,534     |  
|Deferred income taxes                                                                                                                     |  |                   | 323,738     |                  |   | 208,111     |  
|Long term debt - mortgage payable                                                                                                         |  |                   | 2,104,704   |                  |   | 2,401,548   |  
|TOTAL LONG-TERM LIABILITIES                                                                                                               |  |                   | 4,554,358   |                  |   | 4,220,403   |  
|                                                                                                                                          |  |                   |             |                  |   |             |  
|COMMITMENTS AND CONTINGENCIES                                                                                                             |  |                   |             |                  |   |             |  
|                                                                                                                                          |  |                   |             |                  |   |             |  
|STOCKHOLDERS EQUITY                                                                                                                      |  |                   |             |                  |   |             |  
|Preferred stock, par value $1.00 per share; 3,000,000 shares
authorized; none issued                                                      |  |                   |             |                  |   |             |  
|Common stock, par value $.05 per share; 30,000,000 shares authorized;
8,399,596 and 8,352,883 shares issued and outstanding, respectively |  |                   | 419,980     |                  |   | 417,644     |  
|Additional paid-in capital                                                                                                                |  |                   | 34,250,080  |                  |   | 33,641,510  |  
|Retained earnings                                                                                                                         |  |                   | 56,063,464  |                  |   | 52,007,261  |  
|Accumulated other comprehensive income, net of tax                                                                                        |  |                   | (204,512    | )                |   | (127,122    | )
|TOTAL STOCKHOLDERS EQUITY                                                                                                                |  |                   | 90,529,012  |                  |   | 85,939,293  |  
|                                                                                                                                          |  |                   |             |                  |   |             |  
|TOTAL LIABILITIES AND STOCKHOLDERS EQUITY                                                                                                |  | $                 | 108,397,586 |                  | $ | 102,913,694 |  

The accompanying notes are an integral part
of the condensed consolidated financial statements.

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Table of Contents

COMMUNICATIONS
SYSTEMS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF
INCOME AND COMPREHENSIVE INCOME (LOSS)
(Unaudited)

|                                                            |  |                                 |            |                                |   |            |   |      |            |   |   |            |  
|----------------------------------------------------------- |  | ------------------------------- | ---------- | ------------------------------ | - | ---------- | - | ---- | ---------- | - | - | ---------- | -
|                                                            |  | Three Months Ended September 30 |            | Nine Months Ended September 30 |  
|                                                            |  | 2010                            |            | 2009                           |   | 2010       |   | 2009 |           
|                                                            |  |                                 |            |                                |   |            |   |      |            |   |   |            |  
|Sales from operations                                       |  | $                               | 33,323,793 |                                | $ | 28,107,200 |   | $    | 89,864,628 |   | $ | 83,456,557 |  
|                                                            |  |                                 |            |                                |   |            |   |      |            |   |   |            |  
|Costs and expenses:                                         |  |                                 |            |                                |   |            |   |      |            |   |   |            |  
|Cost of sales                                               |  |                                 | 18,013,809 |                                |   | 17,239,281 |   |      | 50,755,575 |   |   | 52,159,098 |  
|Selling, general and administrative expenses                |  |                                 | 9,005,699  |                                |   | 7,518,709  |   |      | 26,492,580 |   |   | 23,403,906 |  
|Total costs and expenses                                    |  |                                 | 27,019,508 |                                |   | 24,757,990 |   |      | 77,248,155 |   |   | 75,563,004 |  
|                                                            |  |                                 |            |                                |   |            |   |      |            |   |   |            |  
|Operating income                                            |  |                                 | 6,304,285  |                                |   | 3,349,210  |   |      | 12,616,473 |   |   | 7,893,553  |  
|                                                            |  |                                 |            |                                |   |            |   |      |            |   |   |            |  
|Other income and (expenses):                                |  |                                 |            |                                |   |            |   |      |            |   |   |            |  
|Investment and other income                                 |  |                                 | 92,363     |                                |   | 201,841    |   |      | 177,788    |   |   | 692,624    |  
|Gain on sale of assets                                      |  |                                 | 9,763      |                                |   | 32,594     |   |      | 1,143      |   |   | 65,266     |  
|Interest and other expense                                  |  |                                 | (51,854    | )                              |   | (61,826    | ) |      | (160,305   | ) |   | (178,621   | )
|                                                            |  |                                 |            |                                |   |            |   |      |            |   |   |            |  
|Other income, net                                           |  |                                 | 50,272     |                                |   | 172,609    |   |      | 18,626     |   |   | 579,269    |  
|                                                            |  |                                 |            |                                |   |            |   |      |            |   |   |            |  
|Income before income taxes                                  |  |                                 | 6,354,557  |                                |   | 3,521,819  |   |      | 12,635,099 |   |   | 8,472,822  |  
|                                                            |  |                                 |            |                                |   |            |   |      |            |   |   |            |  
|Income tax expense                                          |  |                                 | 2,355,163  |                                |   | 1,660,485  |   |      | 4,889,452  |   |   | 3,640,175  |  
|                                                            |  |                                 |            |                                |   |            |   |      |            |   |   |            |  
|Net income                                                  |  |                                 | 3,999,394  |                                |   | 1,861,334  |   |      | 7,745,647  |   |   | 4,832,647  |  
|                                                            |  |                                 |            |                                |   |            |   |      |            |   |   |            |  
|Other comprehensive income (loss), net of
 tax:             |  |                                 |            |                                |   |            |   |      |            |   |   |            |  
|Additional minimum pension liability adjustments            |  |                                 | (17,009    | )                              |   | (387,357   | ) |      | (30,590    | ) |   | (615,635   | )
|Unrealized gains (losses) on
 available-for-sale securities |  |                                 | 11,779     |                                |   | (3,594     | ) |      | 13,259     |   |   | 63,181     |  
|Foreign currency translation adjustment                     |  |                                 | 149,786    |                                |   | (149,993   | ) |      | (60,059    | ) |   | 334,087    |  
|Total other comprehensive income (loss),
 net of tax        |  |                                 | 144,556    |                                |   | (540,944   | ) |      | (77,390    | ) |   | (218,367   | )
|Comprehensive net income                                    |  | $                               | 4,143,950  |                                | $ | 1,320,390  |   | $    | 7,668,257  |   | $ | 4,614,280  |  
|                                                            |  |                                 |            |                                |   |            |   |      |            |   |   |            |  
|Basic net income per share:                                 |  | $                               | .48        |                                | $ | .22        |   | $    | .92        |   | $ | .58        |  
|                                                            |  |                                 |            |                                |   |            |   |      |            |   |   |            |  
|Diluted net income per share:                               |  | $                               | .48        |                                | $ | .22        |   | $    | .92        |   | $ | .58        |  
|                                                            |  |                                 |            |                                |   |            |   |      |            |   |   |            |  
|Average Basic Shares Outstanding                            |  |                                 | 8,398,496  |                                |   | 8,347,701  |   |      | 8,376,542  |   |   | 8,336,027  |  
|Average Dilutive Shares Outstanding                         |  |                                 | 8,414,865  |                                |   | 8,371,155  |   |      | 8,401,212  |   |   | 8,345,290  |  
|Dividends per share                                         |  | $                               | .15        |                                | $ | .14        |   | $    | .44        |   | $ | .38        |  

The accompanying notes are an integral part
of the condensed consolidated financial statements.

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Table of Contents

COMMUNICATIONS SYSTEMS,
INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS EQUITY
(Unaudited)

|                                                            |  |              |           |        |                    |         |  |                              |            |  |   |            |                                                 |   |          |   |   |            |  
|----------------------------------------------------------- |  | ------------ | --------- | ------ | ------------------ | ------- |  | ---------------------------- | ---------- |  | - | ---------- | ----------------------------------------------- | - | -------- | - | - | ---------- | -
|                                                            |  |              |           |        |                    |         |  | Additional
 Paid-in
 Capital |            |  |   |            | Cumulative
 Other
 Comprehensive
 Income (Loss) |   |          |   |  
|                                                            |  | Common Stock |           |        | Retained
 Earnings |         |  |                              |            | 
|                                                            |  | Shares       |           | Amount |                    |         |  |                              | Total      | 
|BALANCE AT DECEMBER 31, 2009                                |  |              | 8,352,883 |        | $                  | 417,644 |  | $                            | 33,641,510 |  | $ | 52,007,261 |                                                 | $ | (127,122 | ) | $ | 85,939,293 |  
|Net income                                                  |  |              |           |        |                    |         |  |                              |            |  |   | 7,745,647  |                                                 |   |          |   | $ | 7,745,647  |  
|Issuance of common stock under Employee Stock Purchase Plan |  |              | 8,813     |        |                    | 441     |  |                              | 99,896     |  |   |            |                                                 |   |          |   | $ | 100,337    |  
|Issuance of common stock to Employee Stock Ownership Plan   |  |              | 37,900    |        |                    | 1,895   |  |                              | 469,581    |  |   |            |                                                 |   |          |   | $ | 471,476    |  
|Share based compensation                                    |  |              |           |        |                    |         |  |                              | 39,093     |  |   |            |                                                 |   |          |   | $ | 39,093     |  
|Shareholder dividends                                       |  |              |           |        |                    |         |  |                              |            |  |   | (3,689,444 | )                                               |   |          |   | $ | (3,689,444 | )
|Other comprehensive income                                  |  |              |           |        |                    |         |  |                              |            |  |   |            |                                                 |   | (77,390  | ) | $ | (77,390    | )
|BALANCE AT SEPTEMBER 30, 2010                               |  |              | 8,399,596 |        | $                  | 419,980 |  | $                            | 34,250,080 |  | $ | 56,063,464 |                                                 | $ | (204,512 | ) | $ | 90,529,012 |  

The accompanying notes are an integral part of the condensed
consolidated financial statements.

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Table of Contents

COMMUNICATIONS SYSTEMS,
INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)

|                                                                                   |  |                                |             |      |   |             |  
|---------------------------------------------------------------------------------- |  | ------------------------------ | ----------- | ---- | - | ----------- | -
|                                                                                   |  | Nine Months Ended September 30 |            
|                                                                                   |  | 2010                           |             | 2009 |  
|CASH FLOWS FROM OPERATING ACTIVITIES:                                              |  |                                |             |      |   |             |  
|Net income                                                                         |  | $                              | 7,745,647   |      | $ | 4,832,647   |  
|Adjustments to reconcile net income to net cash provided by operating
 activities: |  |                                |             |      |   |             |  
|Depreciation and amortization                                                      |  |                                | 1,418,065   |      |   | 1,238,362   |  
|Share based compensation                                                           |  |                                | 39,093      |      |   | 31,571      |  
|Deferred income taxes                                                              |  |                                | (474,900    | )    |   | (253,421    | )
|Loss (gain) on sale of assets                                                      |  |                                | (1,143      | )    |   | (65,266     | )
|Excess tax benefit from stock based payments                                       |  |                                |            |      |   | (952        | )
|Changes in assets and liabilities:                                                 |  |                                |             |      |   |             |  
|Trade receivables                                                                  |  |                                | (5,315,719  | )    |   | 2,561,915   |  
|Inventories                                                                        |  |                                | 302,888     |      |   | 4,708,781   |  
|Prepaid income taxes                                                               |  |                                | 337,274     |      |   |            |  
|Other current assets                                                               |  |                                | (508,666    | )    |   | 100,652     |  
|Accounts payable                                                                   |  |                                | (421,603    | )    |   | (193,643    | )
|Accrued compensation and benefits                                                  |  |                                | 56,473      |      |   | 1,298,911   |  
|Other accrued expenses                                                             |  |                                | 247,625     |      |   | 173,271     |  
|Income taxes payable                                                               |  |                                | 1,552,228   |      |   | 789,876     |  
|Other                                                                              |  |                                |            |      |   |            |  
|Net
 cash provided by operating activities                                         |  |                                | 4,977,262   |      |   | 15,222,704  |  
|                                                                                   |  |                                |             |      |   |             |  
|CASH FLOWS FROM INVESTING ACTIVITIES:                                              |  |                                |             |      |   |             |  
|Capital expenditures                                                               |  |                                | (1,190,886  | )    |   | (3,159,536  | )
|Purchases of investments                                                           |  |                                | (17,110,186 | )    |   | (26,819,245 | )
|Proceeds from the sale of fixed assets                                             |  |                                | 27,593      |      |   | 77,726      |  
|Proceeds from the sale of investments                                              |  |                                | 10,176,299  |      |   | 11,791,000  |  
|Net
 cash used in investing activities                                             |  |                                | (8,097,180  | )    |   | (18,110,055 | )
|                                                                                   |  |                                |             |      |   |             |  
|CASH FLOWS FROM FINANCING ACTIVITIES:                                              |  |                                |             |      |   |             |  
|Cash dividends paid                                                                |  |                                | (3,598,544  | )    |   | (3,163,810  | )
|Mortgage principal payments                                                        |  |                                | (277,300    | )    |   | (259,043    | )
|Proceeds from issuance of common stock                                             |  |                                | 100,337     |      |   | 140,336     |  
|Excess tax benefit from stock based payments                                       |  |                                |            |      |   | 952         |  
|Purchase of common stock                                                           |  |                                |            |      |   | (52,117     | )
|                                                                                   |  |                                |             |      |   |             |  
|Net
 cash used in financing activities                                             |  |                                | (3,775,507  | )    |   | (3,333,682  | )
|                                                                                   |  |                                |             |      |   |             |  
|EFFECT OF FOREIGN EXCHANGE RATE CHANGES ON CASH                                    |  |                                | (31,841     | )    |   | 131,610     |  
|                                                                                   |  |                                |             |      |   |             |  
|NET DECREASE IN CASH AND CASH EQUIVALENTS                                          |  |                                | (6,927,266  | )    |   | (6,089,423  | )
|                                                                                   |  |                                |             |      |   |             |  
|CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD                                   |  |                                | 21,293,448  |      |   | 29,951,561  |  
|                                                                                   |  |                                |             |      |   |             |  
|CASH AND CASH EQUIVALENTS AT END OF PERIOD                                         |  | $                              | 14,366,182  |      | $ | 23,862,138  |  
|                                                                                   |  |                                |             |      |   |             |  
|SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:                                 |  |                                |             |      |   |             |  
|Income taxes paid                                                                  |  | $                              | 3,473,805   |      | $ | 3,103,719   |  
|Interest paid                                                                      |  |                                | 153,249     |      |   | 171,610     |  
|Dividends declared not paid                                                        |  |                                | 1,259,940   |      |   | 1,168,856   |  

The accompanying notes are an integral part of the condensed
consolidated financial statements.

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Table of Contents

COMMUNICATIONS SYSTEMS, INC. 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS(Unaudited)

NOTE 1  SUMMARY OF
SIGNIFICANT ACCOUNTING POLICIES

Description
of business

Communications Systems, Inc.
(herein collectively called CSI, our or the Company) is a Minnesota
corporation organized in 1969 which operates directly and through its
subsidiaries located in the United States, Costa Rica, the United Kingdom and
China. CSI is principally engaged through its Suttle and Austin Taylor business
units in the manufacture and sale of modular connecting and wiring devices for
voice and data communications, digital subscriber line filters, and structured wiring
systems and through its Transition Networks business unit in the manufacture of
media and rate conversion products for telecommunications networks. CSI also
provides through its JDL Technologies (JDL) business unit IT solutions
including network design, computer infrastructure installations, IT service
management, change management, network security and network operations
services.

Financial
statement presentation

The condensed consolidated
balance sheets and consolidated statement of changes in stockholders equity as
of September 30, 2010 and 2009 and the related consolidated statements of
income and comprehensive income, and the condensed consolidated statements of
cash flows for the periods ended September 30, 2010 and 2009 have been prepared
by Company management. In the opinion of management, all adjustments (which
include only normal recurring adjustments except where noted) necessary to
present fairly the financial position, results of operations, and cash flows at
September 30, 2010 and 2009 and for the periods then ended have been made.

Certain information and
footnote disclosures normally included in consolidated financial statements
prepared in accordance with generally accepted accounting principles in the
United States of America have been condensed or omitted. We recommend these
condensed consolidated financial statements be read in conjunction with the
financial statements and notes thereto included in the Companys December 31,
2009 Annual Report to Shareholders on Form 10-K. The results of operations for
the periods ended September 30 are not necessarily indicative of operating
results for the entire year.

The presentation of
financial statements in conformity with generally accepted accounting
principles requires management to make estimates and assumptions that affect
the reported amounts of assets, liabilities, and disclosure of contingent
assets and liabilities at the balance sheet date, and the reported amounts of
revenues and expenses during the reporting period. The estimates and
assumptions used in the accompanying condensed consolidated financial
statements are based upon managements evaluation of the relevant facts and
circumstances as of the time of the financial statements. Actual results could
differ from those estimates.

Except to the extent updated
or described below, the significant accounting policies set forth in Note 1 to
the consolidated financial statements in the Companys Annual Report on Form
10-K for the year ended December 31, 2009, appropriately represent, in all
material respects, the current status of accounting policies, and are
incorporated herein by reference.

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Cash
equivalents and investments

For purposes of the
condensed consolidated balance sheet and statements of cash flows, the Company
considers all highly liquid investments with an original maturity of three
months or less at the time of purchase to be cash equivalents. As of September
30, 2010, the Company had $14.4 million in cash and cash equivalents. Of this
amount, $6.2 million was invested in short-term money market funds that are not
considered to be bank deposits and are not insured or guaranteed by the Federal
Deposit Insurance Corporation (FDIC) or other government agency. These money
market funds seek to preserve the value of the investment at $1.00 per share;
however, it is possible to lose money investing in these funds.

The remainder of the
Companys cash and cash equivalents is deposited at banks. The FDIC insures
deposits at banks up to $250,000 per account. The Companys cash and cash
equivalent are held at large, well-established financial institutions and the
Company believes any risk associated with uninsured balances is remote.

The Company had $25.7
million in investments which consist of certificates of deposit that were purchased
in the public markets and are classified as available-for-sale at September 30,
2010. Of the $25.7 million in investments, $20.4 million mature in 12 months or
less and are classified as current assets. Available-for-sale investments are
reported at fair value with unrealized gains and losses net of tax excluded
from operations and reported as a separate component of stockholders equity
(See Comprehensive income below).

Revenue
Recognition

The Companys manufacturing
operations (Suttle, Transition Networks and Austin Taylor) recognize revenue
when the earnings process is complete, evidenced by persuasive evidence of an
agreement, delivery has occurred or services have been rendered, the price is
fixed or determinable, and collectability is reasonably assured. Revenue is
recognized for domestic and international sales at the shipping point or
delivery to customers, based on the related shipping terms. Risk of loss
transfers at the point of shipment or delivery to customers, and the Company
has no further obligation after this time. Sales are made directly to customers
and through distributors. Payment terms for distributors are consistent with
the terms of the Companys direct customers. The Company records a provision
for sale returns, sales incentives and warranty costs at the time of the sale
based on historical experience and current trends.

JDL generally records
revenue on hardware, software and related equipment sales and installation
contracts when the revenue recognition criteria are met and products are
installed and accepted by the customer. JDL records revenue on service
contracts on a straight-line basis over the contract period, unless evidence
suggests the revenue is earned in a different pattern. Each contract is
individually reviewed to determine when the earnings process is complete.

Accumulated
other comprehensive incomeThe components of
accumulated other comprehensive income, net of tax, are as follows:

|                                                   |  |                    |            |                   |   |            |  
|-------------------------------------------------- |  | ------------------ | ---------- | ----------------- | - | ---------- | -
|                                                   |  | September 30
 2010 |            | December 31
 2009 |  
|Foreign currency translation                       |  | $                  | (1,149,819 | )                 | $ | (1,089,760 | )
|Unrealized gain on
 available-for-sale investments |  |                    | 47,061     |                   |   | 33,802     |  
|Minimum pension liability                          |  |                    | 898,246    |                   |   | 928,836    |  
|                                                   |  | $                  | (204,512   | )                 | $ | (127,122   | )

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NOTE 2 -
STOCK-BASED COMPENSATION

Common shares
are reserved in connection with the Companys 1992 Stock Plan (the Stock
Plan) under which 2,500,000 shares of common stock may be issued pursuant to
stock options, stock appreciation rights, restricted stock or deferred stock
granted to officers and key employees. Exercise prices of stock options under
the Stock Plan cannot be less than fair market value of the stock on the date
of grant. Rules and conditions governing awards of stock options, stock appreciation
rights and restricted stock are determined by the Compensation Committee of the
Board of Directors, subject to certain limitations incorporated into the Stock
Plan. At September 30, 2010, 1,123,739 shares remained available to be issued
under the Stock Plan. All currently outstanding awards under the Stock Plan are
vested. The options expire five years from date of grant.

Shares of
common stock are also reserved for issuance in connection with a nonqualified
stock option plan under which up to 200,000 shares may be issued to nonemployee
directors (the Director Plan). The Director Plan provides for the automatic
grant of nonqualified options for 3,000 shares of common stock annually to each
nonemployee director concurrent with the annual shareholders meeting. Exercise
price is the fair market value of the stock at the date of grant. Options
granted under the Director Plan vest when issued and expire 10 years from date
of grant. At September 30, 2010, 37,000 shares are available to be issued under
the Director Plan.

The Company
also has an Employee Stock Purchase Plan (ESPP) for which 500,000 common
shares have been reserved. Employees are able to acquire shares under the ESPP
Plan at 95% of the price at the end of the current quarterly plan term, which
is September 30, 2010. The ESPP Plan is non-compensatory under current rules
and does not give rise to compensation cost. At September 30, 2010, 79,015
shares remain available under the Plan for purchase.

Stock
compensation expense recognized for the nine month period ended September 30,
2010 was $39,000 before income taxes and $25,000 after income taxes. Stock
compensation expense recognized for the nine month period ended September 30,
2009 was $32,000 before income taxes and $20,000 after income taxes. Excess tax
benefits from the exercise of stock options included in financing cash flows
for the nine month periods ended September 30, 2010 and 2009 were $0 and
$1,000, respectively.

The following
table summarizes the stock option transactions for the nine month periods ended
September 30, 2010. All outstanding stock options are currently exercisable.

|                                  |  |         |         |                                             |   |                                               |  |  |            | 
|--------------------------------- |  | ------- | ------- | ------------------------------------------- | - | --------------------------------------------- |  |  | ---------- | 
|                                  |  | Options |         | Weighted average
 exercise price
 per share |   | Weighted average
 remaining
 contractual term | 
|Outstanding
  December 31, 2009  |  |         | 189,000 |                                             | $ | 9.77                                          |  |  | 4.75 years | 
|Issued                            |  |         | 18,000  |                                             |   | 11.82                                         |  |  |            | 
|Exercised                         |  |         |        |                                             |   |                                              |  |  |            | 
|Canceled                          |  |         | (24,000 | )                                           |   | 14.13                                         |  |  |            | 
|Outstanding
  September 30, 2010 |  |         | 183,000 |                                             |   | 9.40                                          |  |  | 5.13 years | 

18,000
director stock options were granted during the nine month period ended
September 30, 2010. The aggregate intrinsic value of all options (the amount by
which the market price of the stock on the last day of the period exceeded the
market price of the stock on the date of grant) outstanding at September 30,
2010 was $371,000. No options were exercised during either of the nine months
ended September 30, 2010 and 2009.

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NOTE 3 -
INVENTORIES

Inventories
summarized below are priced at the lower of first-in, first-out cost or market:

|                             |  |                    |            |                   |   |            | 
|---------------------------- |  | ------------------ | ---------- | ----------------- | - | ---------- | 
|                             |  | September 30
 2010 |            | December 31
 2009 |  
|Finished
 goods              |  | $                  | 15,181,598 |                   | $ | 15,195,132 | 
|Raw and
 processed materials |  |                    | 9,107,785  |                   |   | 9,403,185  | 
|Total                        |  | $                  | 24,289,383 |                   | $ | 24,598,317 | 

NOTE 4 
WARRANTY

We provide
reserves for the estimated cost of product warranties at the time revenue is
recognized. We estimate the costs of our warranty obligations based on our
warranty policy or applicable contractual warranty, historical experience of
known product failure rates, and use of materials and service delivery costs
incurred in correcting product failures. Management reviews the estimated
warranty liability on a quarterly basis to determine its adequacy. The actual
warranty expense could differ from the estimates made by the Company based on
product performance.

The following
table presents the changes in the Companys warranty liability for the nine
month periods ended September 30, 2010 and 2009, respectively, the majority of
which relates to a five-year obligation to provide for potential future
liabilities for network equipment sales.

|                            |  |      |          |      |   |          |  
|--------------------------- |  | ---- | -------- | ---- | - | -------- | -
|                            |  | 2010 |          | 2009 |  
|Beginning
 Balance          |  | $    | 648,000  |      | $ | 593,000  |  
|Actual
 warranty costs paid |  |      | (154,000 | )    |   | (277,000 | )
|Amounts
 charged to expense |  |      | 86,000   |      |   | 540,000  |  
|Ending
 balance             |  | $    | 580,000  |      | $ | 856,000  |  

NOTE 5 
CONTINGENCIES

In the ordinary course of business, the
Company is exposed to legal actions and claims and incurs costs to defend
against these actions and claims. Company management is not aware of any
outstanding or pending legal actions or claims that would materially affect the
Companys financial position or results of operations.

NOTE 6 
INCOME TAXES

In the
preparation of the Companys condensed consolidated financial statements,
management calculates income taxes based upon the estimated effective rate
applicable to operating results for the full fiscal year. This includes
estimating the current tax liability as well as assessing differences resulting
from different treatment of items for tax and book accounting purposes. These
differences result in deferred tax assets and liabilities that are recorded on
the balance sheet. These assets and liabilities are analyzed regularly and
management assesses the likelihood that deferred tax assets will be recovered
from future taxable income.

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Table of Contents

At September
30, 2010 there was $579,000 of net uncertain tax benefit positions that would
reduce the effective income tax rate if recognized. The Company records
interest and penalties related to income taxes as income tax expense in the
Condensed Consolidated Statements of Income. We do not anticipate that total
unrecognized tax benefits
will significantly change due to the settlement of audits or the expiration of
statutes of limitations within the next twelve months.

The Company is
subject to U.S. federal income tax as well as income tax of multiple state and
foreign jurisdictions. The tax years 2007-2009 remain open to examination by
the Internal Revenue Service and the years 2005-2009 remain open to examination
by various state tax departments. The tax years from 2007-2009 remain open in
Costa Rica.

The Companys
effective income tax rate was 38.7% for the first nine months of 2010. The
effective tax rate differs from the federal tax rate of 35% due to state income
taxes, foreign losses not deductible for U.S. income tax purposes, return to
provision adjustments and provisions for interest charges and settlement of
uncertain income tax positions. Although the foreign operating losses may
ultimately be deductible in the countries in which they have occurred, the
Company has not recorded a deferred tax asset for these losses due to
uncertainty regarding the eventual realization of the benefit. The effect of
the foreign operations is an overall rate increase of approximately 2.0% for
the nine months ended September 30, 2010. There were no additional uncertain
tax positions identified in the third quarter of 2010. The Companys effective
income tax rate for the nine months ended September 30, 2009 was 43%, and
differed from the federal tax rate due to state income taxes, foreign losses
not deductible for U.S. income tax purposes, return to provision adjustments
and provisions for interest charges on uncertain tax positions.

NOTE 7 
SEGMENT INFORMATION

The Company
classifies its businesses into four segments as follows:

| |   |                                                                                                                                                                                                            
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Suttle
 manufactures and sells U.S. standard modular connecting and wiring devices
 for voice and data communications, digital subscriber line filters, and
 structured wiring systems;                    
| |  | Transition
 Networks designs and markets data transmission, computer network and media
 conversion products;                                                                                               
| |  | JDL
 Technologies, Inc. provides IT services including network design, computer
 infrastructure installations, IT service management, change management,
 network security and network operations services;
| |  | Austin
 Taylor Communications LTD manufactures British-standard telephone equipment
 and equipment enclosures for the U.K and international markets.                                                       

Our
non-allocated corporate general and administrative expenses are categorized as
Other in the Companys segment reporting. Management has chosen to organize
the enterprise and disclose reportable segments based on our products and
services. There are no material inter-segment revenues.

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Information concerning the
Companys continuing operations in the various segments for the nine month and
three month periods ended September 30, 2010 and 2009 is as follows:

SEGMENT INFORMATION - NINE
MONTHS

|                                              |  |        |            |                      |   |                   |  |                |           |       |   |           |   |   |            |   |   |             | 
|--------------------------------------------- |  | ------ | ---------- | -------------------- | - | ----------------- |  | -------------- | --------- | ----- | - | --------- | - | - | ---------- | - | - | ----------- | 
|                                              |  | Suttle |            | Transition
 Networks |   | JDL
 Technologies |  | Austin
 Taylor |           | Other |   | Total     |  
|Nine months ended September 30, 2010:         |  |        |            |                      |   |                   |  |                |           |       |   |           |   |   |            |   |   |             | 
|Sales                                         |  | $      | 28,121,860 |                      | $ | 49,863,982        |  | $              | 9,384,330 |       | $ | 2,494,456 |   | $ |           |   | $ | 89,864,628  | 
|Cost of sales                                 |  |        | 20,612,293 |                      |   | 22,686,238        |  |                | 5,199,168 |       |   | 2,257,876 |   |   |           |   | $ | 50,755,575  | 
|Gross profit                                  |  |        | 7,509,567  |                      |   | 27,177,744        |  |                | 4,185,162 |       |   | 236,580   |   |   |           |   |   | 39,109,053  | 
|Selling, general and administrative expenses  |  |        | 5,364,176  |                      |   | 15,772,091        |  |                | 1,055,247 |       |   | 853,435   |   |   | 3,447,631  |   | $ | 26,492,580  | 
|Operating income (loss)                       |  | $      | 2,145,391  |                      | $ | 11,405,653        |  | $              | 3,129,915 |       | $ | (616,855  | ) | $ | (3,447,631 | ) | $ | 12,616,473  | 
|                                              |  |        |            |                      |   |                   |  |                |           |       |   |           |   |   |            |   |   |             | 
|Depreciation and amortization                 |  | $      | 623,479    |                      | $ | 456,335           |  | $              | 88,517    |       | $ | 29,679    |   | $ | 220,055    |   | $ | 1,418,065   | 
|                                              |  |        |            |                      |   |                   |  |                |           |       |   |           |   |   |            |   |   |             | 
|Capital expenditures                          |  | $      | 501,425    |                      | $ | 473,015           |  | $              | 16,947    |       | $ | 35,354    |   | $ | 164,145    |   | $ | 1,190,886   | 
|                                              |  |        |            |                      |   |                   |  |                |           |       |   |           |   |   |            |   |   |             | 
|Assets at September 30, 2010                  |  | $      | 19,677,651 |                      | $ | 31,467,598        |  | $              | 4,205,027 |       | $ | 2,919,046 |   | $ | 50,128,264 |   | $ | 108,397,586 | 
|                                              |  |        |            |                      |   |                   |  |                |           |       |   |           |   |   |            |   |   |             | 
|                                              |  | Suttle |            | Transition
 Networks |   | JDL
 Technologies |  | Austin
 Taylor |           | Other |   | Total     |  
|Nine months ended September 30, 2009:         |  |        |            |                      |   |                   |  |                |           |       |   |           |   |   |            |   |   |             | 
|Sales                                         |  | $      | 33,159,219 |                      | $ | 39,809,867        |  | $              | 8,106,662 |       | $ | 2,380,809 |   | $ |           |   | $ | 83,456,557  | 
|Cost of sales                                 |  |        | 25,613,432 |                      |   | 18,873,905        |  |                | 5,391,549 |       |   | 2,280,212 |   |   |           |   | $ | 52,159,098  | 
|Gross profit                                  |  |        | 7,545,787  |                      |   | 20,935,962        |  |                | 2,715,113 |       |   | 100,597   |   |   |           |   |   | 31,297,459  | 
|Selling, general and administrative
 expenses |  |        | 4,639,869  |                      |   | 14,462,999        |  |                | 948,362   |       |   | 838,149   |   |   | 2,514,527  |   | $ | 23,403,906  | 
|Operating income (loss)                       |  | $      | 2,905,918  |                      | $ | 6,472,963         |  | $              | 1,766,751 |       | $ | (737,552  | ) | $ | (2,514,527 | ) | $ | 7,893,553   | 
|                                              |  |        |            |                      |   |                   |  |                |           |       |   |           |   |   |            |   |   |             | 
|Depreciation and amortization                 |  | $      | 473,404    |                      | $ | 434,714           |  | $              | 118,140   |       | $ | 48,300    |   | $ | 163,804    |   | $ | 1,238,362   | 
|                                              |  |        |            |                      |   |                   |  |                |           |       |   |           |   |   |            |   |   |             | 
|Capital expenditures                          |  | $      | 2,735,553  |                      | $ | 261,141           |  | $              | 14,051    |       | $ | 85,457    |   | $ | 63,334     |   | $ | 3,159,536   | 
|                                              |  |        |            |                      |   |                   |  |                |           |       |   |           |   |   |            |   |   |             | 
|Assets at September 30, 2009                  |  | $      | 22,433,288 |                      | $ | 26,652,702        |  | $              | 3,209,269 |       | $ | 4,390,817 |   | $ | 45,520,693 |   | $ | 102,206,769 | 
|                                              |  |        |            |                      |   |                   |  |                |           |       |   |           |   |   |            |   |   |             | 

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SEGMENT INFORMATION - THREE
MONTHS

|                                              |  |        |            |                      |   |                   |  |                |           |       |   |          |   |   |            |   |   |            | 
|--------------------------------------------- |  | ------ | ---------- | -------------------- | - | ----------------- |  | -------------- | --------- | ----- | - | -------- | - | - | ---------- | - | - | ---------- | 
|                                              |  | Suttle |            | Transition
 Networks |   | JDL
 Technologies |  | Austin
 Taylor |           | Other |   | Total    |  
|Three months ended September 30, 2010:        |  |        |            |                      |   |                   |  |                |           |       |   |          |   |   |            |   |   |            | 
|Sales                                         |  | $      | 9,069,600  |                      | $ | 18,991,587        |  | $              | 4,463,475 |       | $ | 799,131  |   | $ |           |   | $ | 33,323,793 | 
|Cost of sales                                 |  |        | 6,634,125  |                      |   | 8,400,497         |  |                | 2,302,883 |       |   | 676,304  |   |   |           |   | $ | 18,013,809 | 
|Gross profit                                  |  |        | 2,435,475  |                      |   | 10,591,090        |  |                | 2,160,592 |       |   | 122,827  |   |   |           |   |   | 15,309,984 | 
|Selling, general and administrative
 expenses |  |        | 1,730,506  |                      |   | 5,452,714         |  |                | 346,899   |       |   | 324,672  |   |   | 1,150,908  |   | $ | 9,005,699  | 
|Operating income (loss)                       |  | $      | 704,969    |                      | $ | 5,138,376         |  | $              | 1,813,693 |       | $ | (201,845 | ) | $ | (1,150,908 | ) | $ | 6,304,285  | 
|                                              |  |        |            |                      |   |                   |  |                |           |       |   |          |   |   |            |   |   |            | 
|Depreciation and amortization                 |  | $      | 187,636    |                      | $ | 158,071           |  | $              | 11,709    |       | $ | 8,952    |   | $ | 73,669     |   | $ | 440,037    | 
|                                              |  |        |            |                      |   |                   |  |                |           |       |   |          |   |   |            |   |   |            | 
|Capital expenditures                          |  | $      | (3,387     | )                    | $ | 193,763           |  | $              |          |       | $ | 20,961   |   | $ | 84,063     |   | $ | 295,400    | 
|                                              |  |        |            |                      |   |                   |  |                |           |       |   |          |   |   |            |   |   |            | 
|                                              |  | Suttle |            | Transition
 Networks |   | JDL
 Technologies |  | Austin
 Taylor |           | Other |   | Total    |  
|Three months ended September 30, 2009:        |  |        |            |                      |   |                   |  |                |           |       |   |          |   |   |            |   |   |            | 
|Sales                                         |  | $      | 10,548,663 |                      | $ | 14,001,891        |  | $              | 2,723,361 |       | $ | 833,285  |   | $ |           |   | $ | 28,107,200 | 
|Cost of sales                                 |  |        | 8,044,494  |                      |   | 6,484,737         |  |                | 1,888,195 |       |   | 821,855  |   |   |           |   | $ | 17,239,281 | 
|Gross profit                                  |  |        | 2,504,169  |                      |   | 7,517,154         |  |                | 835,166   |       |   | 11,430   |   |   |           |   |   | 10,867,919 | 
|Selling, general and administrative
 expenses |  |        | 1,502,589  |                      |   | 4,668,015         |  |                | 287,797   |       |   | 248,675  |   |   | 811,633    |   | $ | 7,518,709  | 
|Operating income (loss)                       |  | $      | 1,001,580  |                      | $ | 2,849,139         |  | $              | 547,369   |       | $ | (237,245 | ) | $ | (811,633   | ) | $ | 3,349,210  | 
|                                              |  |        |            |                      |   |                   |  |                |           |       |   |          |   |   |            |   |   |            | 
|Depreciation and amortization                 |  | $      | 160,527    |                      | $ | 139,852           |  | $              | 36,363    |       | $ | 16,893   |   | $ | 70,271     |   | $ | 423,906    | 
|                                              |  |        |            |                      |   |                   |  |                |           |       |   |          |   |   |            |   |   |            | 
|Capital expenditures                          |  | $      | 727,561    |                      | $ | 101,082           |  | $              | 5,509     |       | $ | 2,106    |   | $ | 5,153      |   | $ | 841,411    | 

NOTE 8  PENSIONS

The Companys U.K. based
subsidiary Austin Taylor maintains defined benefit pension plans that cover
approximately 8 active employees. The Company does not provide any other
post-retirement benefits to its employees. Components of net periodic benefit
cost of the pension plans were:

|                                |  |                                |          |      |   |          |  
|------------------------------- |  | ------------------------------ | -------- | ---- | - | -------- | -
|                                |  | Nine months Ended September 30 |         
|                                |  | 2010                           |          | 2009 |  
|Service cost                    |  | $                              | 27,000   |      |   | 29,000   |  
|Interest cost                   |  |                                | 194,000  |      |   | 201,000  |  
|Expected return on plan
 assets |  |                                | (168,000 | )    |   | (196,000 | )
|                                |  | $                              | 53,000   |      | $ | 34,000   |  

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NOTE 9  NET INCOME PER
SHARE

Basic net income per common
share is based on the weighted average number of common shares outstanding
during each year. Diluted net income per common share takes into effect the
dilutive effect of potential common shares outstanding. The Companys only
potential common shares outstanding are stock options, which resulted in a
dilutive effect of 16,369 shares and 24,670 shares for the respective three and nine month periods
ended September 30, 2010. The dilutive effect of stock options for the three
and nine month periods ended September 30, 2009 was 23,454 shares and 9,263
shares, respectively. The Company calculates the dilutive effect of outstanding
options using the treasury stock method. The number of shares not included in
the computation of diluted earnings per share because the options exercise
price was greater than the average market price of common stock during the
period was 18,000 and 151,100 at September 30, 2010 and 2009, respectively.

NOTE 10  FAIR VALUE
MEASUREMENTS

The accounting guidance
establishes a valuation hierarchy for disclosure of the inputs to valuation
used to measure fair value. This hierarchy prioritizes the inputs into three
broad levels as follows:

Level 1  Observable inputs
that reflect unadjusted quoted prices for identical assets or liabilities in
active markets that the Company has the ability to access at the measurement
date.

Level 2  Observable inputs
such as quoted prices for similar instruments and quoted prices in markets that
are not active, and inputs that are directly observable or can be corroborated
by observable market data. The types of assets and liabilities included in
Level 2 are typically either comparable to actively traded securities or
contracts, such as treasury securities with pricing interpolated from recent
trades of similar securities, or priced with models using highly observable
inputs, such as commodity options priced using observable forward prices and
volatilities.

Level 3  Significant inputs
to pricing have little or no observability as of the reporting date. The types
of assets and liabilities included in Level 3 are those with inputs requiring
significant management judgment or estimation, such as the complex and
subjective models and forecasts used to determine the fair value of financial
instruments.

The Companys assets and
liabilities that are measured at fair value on a recurring basis as of
September 30, 2010 and December 31, 2009, respectively, include money market
funds within cash and cash equivalents of $6,153,000 and $12,972,000 classified
as Level 1 within the hierarchy and certificate of deposits within investments
of $25,723,000 and $18,776,000 classified as Level 2. The Company does not have
any assets or liabilities classified as Level 3 within the hierarchy. There
were no transfers between levels during the nine months ended September 30,
2010.

NOTE 11  SUBSEQUENT EVENTS

The Company has evaluated
subsequent events through the date of this filing. We do not believe there are
any material subsequent events that would require further disclosure.

14

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Table of Contents

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

Forward looking statements

In this report and, from
time to time, in reports filed with the Securities and Exchange Commission, in
press releases, and in other communications to shareholders or the investing
public, the Company may make forward looking statements within the meaning of
the Private Securities Litigation Reform Act of 1995 concerning possible or
anticipated future financial performance, business activities, plans, pending
claims, investigations or litigation which are typically preceded by the words
believes, expects, anticipates, intends or similar expressions. For these
forward-looking statements, the Company claims the protection of the safe
harbor for forward-looking statements contained in federal securities laws.
Shareholders and the investing public should understand that these forward
looking statements are subject to risks and uncertainties that could cause
actual performance, activities, anticipated results, outcomes or plans to
differ significantly from those indicated in the forward-looking statements.
These risks and uncertainties include, but are not limited to:

| |   |                                                                                                                                                                                                                                   
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | lower sales to major
 telephone companies and other major customers;                                                                                                                                                              
| |  | the introduction of
 competitive products and technologies;                                                                                                                                                                       
| |  | our ability to
 successfully reduce operating expenses at certain business units;                                                                                                                                                 
| |  | the general health of
 the telecom sector;                                                                                                                                                                                        
| |  | the continuing economic
 downturn and the fact that conditions outside the United States are
 recovering more slowly than within the United States;                                                                               
| |  | successful integration
 and profitability of acquisitions;                                                                                                                                                                        
| |  | delays in new product
 introductions;                                                                                                                                                                                             
| |  | higher than expected
 expense related to new sales and marketing initiatives;                                                                                                                                                     
| |  | unfavorable resolution
 of claims and litigation;                                                                                                                                                                                 
| |  | availability of adequate
 supplies of raw materials and components;                                                                                                                                                               
| |  | fuel prices;                                                                                                                                                                                                                      
| |  | government funding of
 education technology spending; and                                                                                                                                                                         
| |  | other factors discussed
 from time to time in the Companys filings with the Securities and Exchange
 Commission, including risk factors presented under Item 1A of the Companys
 most recently filed annual report on Form 10-K.

Three Months Ended September 30, 2010 Compared to Three Months Ended September 30, 2009

Consolidated sales increased
19% in 2010 to $33,324,000 compared to $28,107,000 in 2009. Consolidated
operating income in 2010 increased to $6,304,000 compared to $3,349,000 in the
third quarter of 2009.

Net income in 2010 increased
to $3,999,000 compared to $1,861,000 in the third quarter of 2009.

15

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Table of Contents

Suttle

Suttle sales decreased 14%
in the third quarter of 2010 to $9,070,000 compared to $10,549,000 in the same
period of 2009 due to contraction of the housing and building sectors of the
economy. Sales by customer groups in the third quarter of 2010 and 2009 were:

|                          |  |                                |           |      |   |            | 
|------------------------- |  | ------------------------------ | --------- | ---- | - | ---------- | 
|                          |  | Suttle Sales by Customer Group |          
|                          |  | 2010                           |           | 2009 |  
|Major telephone companies |  | $                              | 6,596,000 |      | $ | 7,455,000  | 
|Distributors              |  |                                | 1,347,000 |      |   | 1,696,000  | 
|International             |  |                                | 1,120,000 |      |   | 1,367,000  | 
|Other                     |  |                                | 7,000     |      |   | 31,000     | 
|                          |  | $                              | 9,070,000 |      | $ | 10,549,000 | 

Suttles sales by product groups in third
quarter of 2010 and 2009 were:

|                             |  |                               |           |      |   |            | 
|---------------------------- |  | ----------------------------- | --------- | ---- | - | ---------- | 
|                             |  | Suttle Sales by Product Group |          
|                             |  | 2010                          |           | 2009 |  
|Modular connecting
 products |  | $                             | 3,378,000 |      | $ | 3,943,000  | 
|DSL products                 |  |                               | 2,882,000 |      |   | 3,396,000  | 
|Structured cabling
 products |  |                               | 2,725,000 |      |   | 3,014,000  | 
|Other products               |  |                               | 85,000    |      |   | 196,000    | 
|                             |  | $                             | 9,070,000 |      | $ | 10,549,000 | 

Sales to the major telephone
companies decreased 12% in 2010 due to a decrease in sales of DSL products, an
accelerating decline in voice markets and the continued impact of the
contraction of the U.S. housing market. Sales to these customers accounted for
73% of Suttles sales in the 2010 third quarter compared to 71% of sales in
2009. Sales to distributors decreased 21% in 2010 due to a decline in the home
building market. This customer segment accounted for 15% and 16% of sales in
the third quarters of 2010 and 2009, respectively. International sales
decreased 18% and accounted for 12% of Suttles third quarter 2010 sales.
Suttles products do not have a large international market due to different
product specifications in non-US markets. Sales to other customers decreased
77% to $7,000.

Modular connecting products
sales have decreased 14% due to a slowing of the home building business and
accelerated decline in the voice market. Sales of DSL products decreased 15%
due to the maturation of the U.S. DSL market and the order cycle of major
customers. Sales of structured cabling products decreased 10% due to the
contraction of the housing market, specifically the multi-dwelling unit space.

Suttles gross margin
decreased 3% in the third quarter of 2010 to $2,435,000 compared to $2,504,000
in the same period of 2009. Gross margin as a percentage of sales increased to
27% in 2010 from 24% in 2009 due to product mix changes. Suttle realizes its
highest selling margins on modular connecting products. DSL products are the
least profitable. Selling, general and administrative expenses increased
$228,000 or 15% in the third quarter of 2010 compared to the same period in
2009, due to increased spending in the Companys technology development
initiative. Suttles operating income was $705,000 in the third quarter of 2010
compared to operating income of $1,002,000 in 2009.

16

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Table of Contents

Transition Networks

Transition Networks sales
increased 36% to $18,992,000 in the third quarter of 2010 compared to
$14,002,000 in 2009.

Third quarter sales by
region are presented in the following table:

|                                      |  |                                     |            |      |   |            | 
|------------------------------------- |  | ----------------------------------- | ---------- | ---- | - | ---------- | 
|                                      |  | Transition Networks Sales by Region |           
|                                      |  | 2010                                |            | 2009 |  
|North America                         |  | $                                   | 16,213,000 |      | $ | 11,416,000 | 
|Europe, Middle East,
 Africa (EMEA) |  |                                     | 1,216,000  |      |   | 1,374,000  | 
|Rest of world                         |  |                                     | 1,563,000  |      |   | 1,212,000  | 
|                                      |  | $                                   | 18,992,000 |      | $ | 14,002,000 | 

Sales in North America
increased 42% or $4,797,000 due to an improving economic situation in the
United States and Canada and increased activity in target vertical market
segments. International sales increased $193,000, or 7%, primarily due to
improved economic activity in Asia and Latin America. The economy in the EMEA
region continues to be sluggish causing sales to decline 11% over the same
period in the prior year.

The following table
summarizes Transition Networks 2010 and 2009 third quarter sales by its major
product groups:

|                  |  |                                            |            |      |   |            | 
|----------------- |  | ------------------------------------------ | ---------- | ---- | - | ---------- | 
|                  |  | Transition Networks Sales by Product Group |           
|                  |  | 2010                                       |            | 2009 |  
|Media converters  |  | $                                          | 13,973,000 |      | $ | 9,698,000  | 
|Ethernet switches |  |                                            | 1,256,000  |      |   | 1,110,000  | 
|Ethernet adapters |  |                                            | 2,371,000  |      |   | 2,229,000  | 
|Other products    |  |                                            | 1,392,000  |      |   | 965,000    | 
|                  |  | $                                          | 18,992,000 |      | $ | 14,002,000 | 

Gross margin on third
quarter Transition Networks sales increased 41% to $10,591,000 in 2010 from
$7,517,000 in 2009. Gross margin as a percentage of sales was 56% in 2010,
compared to 54% in the 2009 period. The increase is due to the mix of products
with an increase in some higher margin conversion products and lower operating
expenses for the indirect costs related to gross margin. Selling, general and
administrative expenses increased 17% to $5,453,000 in 2010 compared to
$4,668,000 in 2009 due to the hiring of new employees and an increase in
selling expenses. Operating income increased to $5,138,000 in 2010 compared to
$2,849,000 in 2009.

JDL Technologies, Inc.

JDL Technologies, Inc. sales
increased 64% to $4,463,000 in the third quarter of 2010 compared to $2,723,000
in 2009.

17

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JDLs revenues by customer
group were as follows:

|                          |  |                               |           |      |   |           | 
|------------------------- |  | ----------------------------- | --------- | ---- | - | --------- | 
|                          |  | JDL Revenue by Customer Group |          
|                          |  | 2010                          |           | 2009 |  
|Broward County FL schools |  | $                             | 4,380,000 |      | $ | 2,682,000 | 
|All other                 |  |                               | 83,000    |      |   | 41,000    | 
|                          |  | $                             | 4,463,000 |      | $ | 2,723,000 | 

Revenues earned in Broward
County, Florida increased $1,698,000 or 63% in the third quarter 2010. The
increase was the result of higher funding from the federal government for
LAN/WAN/Wire work in 2010 than in 2009.

JDL gross margin increased
159% to $2,161,000 in the third quarter of 2010 compared to $835,000 in the
same period in 2009. Gross margin as a percentage of sales increased to 48% in
2010 from 31% in 2009 due to purchasing discounts and rebates the Company was able
to take advantage of during the quarter. Selling, general and administrative
expenses increased in 2010 to $347,000 compared to $288,000 in 2009 due to an
increase in compensation expenses. JDL reported operating income of $1,814,000
in the third quarter of 2010 compared to $547,000 in the same period of 2009.

Austin Taylor

Austin Taylors revenues
decreased 4% to $799,000 for the third quarter of 2010, compared to $833,000 in
2009. This decrease is primarily due to a strategic business partners reorganization
of its purchasing and warehousing operations as well as lower than expected
demand in the UK and Ireland telecom markets. Gross margin increased to
$123,000 in 2010 from $11,000 in 2009. Gross margin as a percentage of sales
was 15% in 2010 compared to 1% in 2009. This increase resulted from the
realigning of the Austin Taylor Supplier network and improved efficiencies of
the internal manufacturing processes. Austin Taylor reported an operating loss
in 2010 of $202,000 compared to $237,000 in 2009.

Other

Net investment income
decreased 71% to $50,000 in 2010 as compared to $173,000 in 2009 This decrease
is due to a decrease in interest rates and unrealized foreign exchange losses
due to the decline in the Euro. Income before income taxes increased to
$6,354,000 in 2010 compared to $3,522,000 in 2009. The Companys effective
income tax rate was 37% in 2010 and 47% in 2009. This effective rate was higher
than the standard rate of 35% due to state income taxes, foreign losses not
deductible for U.S. income tax purposes, income tax return to provision
adjustments, provisions for interest charges and settlement of uncertain income
tax positions.

Nine Months Ended September 30, 2010 Compared to Nine Months Ended September 30, 2009

Consolidated sales increased
8% in 2010 to $89,865,000 compared to $83,457,000 in 2009. Consolidated
operating income in 2010 increased to $12,616,000 compared to $7,894,000 in the
first nine months of 2009.

Net income in 2010 increased
to $7,746,000 compared to $4,833,000 in the first nine months of 2009.

18

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Table of Contents

Suttle

Suttle sales
decreased 15% in the first nine months of 2010 to $28,122,000 compared to
$33,159,000 in the same period of 2009. Sales by customer groups in the first
nine months of 2010 and 2009 were:

|                          |  |                                |            |      |   |            | 
|------------------------- |  | ------------------------------ | ---------- | ---- | - | ---------- | 
|                          |  | Suttle
Sales by Customer Group |           
|                          |  | 2010                           |            | 2009 |  
|Major
telephone companies |  | $                              | 19,628,000 |      | $ | 23,103,000 | 
|Distributors              |  |                                | 4,179,000  |      |   | 5,583,000  | 
|International             |  |                                | 4,220,000  |      |   | 4,337,000  | 
|Other                     |  |                                | 95,000     |      |   | 136,000    | 
|                          |  | $                              | 28,122,000 |      | $ | 33,159,000 | 

Suttles sales
by product groups in first nine months of 2010 and 2009 were:

|                            |  |                               |            |      |   |            | 
|--------------------------- |  | ----------------------------- | ---------- | ---- | - | ---------- | 
|                            |  | Suttle Sales by Product Group |           
|                            |  | 2010                          |            | 2009 |  
|Modular
connecting products |  | $                             | 11,186,000 |      | $ | 12,446,000 | 
|DSL products                |  |                               | 8,930,000  |      |   | 10,111,000 | 
|Structured
cabling products |  |                               | 7,566,000  |      |   | 10,092,000 | 
|Other
products              |  |                               | 440,000    |      |   | 510,000    | 
|                            |  | $                             | 28,122,000 |      | $ | 33,159,000 | 

Sales to the
major telephone companies decreased 15% in 2010 due to decreased DSL deployment
and continued contraction of the domestic housing market. Sales to these
customers accounted for 70% of Suttles sales in the first nine months of both
2010 and 2009. Sales to distributors decreased 25% in 2010 primarily due to the
decrease of structured cabling sales to these customers. This customer segment
accounted for 15% and 17% of sales in the first nine months of 2010 and 2009,
respectively. International sales decreased 3% and accounted for 15% of
Suttles first nine months 2010 sales. Suttles products do not have a large
international market due to different product specifications in non-US markets.
Sales to other customers decreased 30% to $95,000.

Modular
connecting products sales have decreased 10% due to a slowing of the home
building business and continued decline in the voice market. Sales of DSL
products decreased 12% due to the maturation of the U.S. DSL market. Sales of
structured cabling products decreased 25% due to the contraction of the housing
market, specifically the multi-dwelling unit space.

Suttles gross
margin decreased slightly in the first nine months of 2010 to $7,510,000
compared to $7,546,000 in the same period of 2009. Gross margin as a percentage
of sales increased to 27% in 2010 from 23% in 2009 due to favorable product mix
changes. Suttle realizes its highest selling margins on modular connecting
products. DSL products are the least profitable. Selling, general and
administrative expenses increased $724,000 or 16% in the first nine months of
2010 compared to the same period in 2009, due to increases in technological
development spending. Suttles operating income was $2,145,000 in the first
nine months of 2010 compared to operating income of $2,906,000 in 2009.

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Transition Networks

Transition
Networks sales increased 25% to $49,864,000 in the first nine months of 2010
compared to $39,810,000 in 2009.

First nine
months sales by region are presented in the following table:

|                                     |  |                                     |            |      |   |            | 
|------------------------------------ |  | ----------------------------------- | ---------- | ---- | - | ---------- | 
|                                     |  | Transition Networks Sales by Region |           
|                                     |  | 2010                                |            | 2009 |  
|North
America                        |  | $                                   | 41,737,000 |      | $ | 32,609,000 | 
|Europe,
Middle East, Africa (EMEA) |  |                                     | 3,292,000  |      |   | 3,444,000  | 
|Rest of
world                        |  |                                     | 4,835,000  |      |   | 3,757,000  | 
|                                     |  | $                                   | 49,864,000 |      | $ | 39,810,000 | 

Sales in North
America increased $9,128,000 or 28% due to an improving economic situation in
the United States and Canada and increased activity in target vertical market
segments and product groups. International sales increased $926,000, or 13%
primarily due to improved economic activity in Asia and Latin America. The EMEA
region continues to be sluggish in its economic recovery and sales decreased 4%
in that region.

The following
table summarizes Transition Networks 2010 and 2009 first nine months sales by
its major product groups:

|                  |  |                                            |            |      |   |            | 
|----------------- |  | ------------------------------------------ | ---------- | ---- | - | ---------- | 
|                  |  | Transition Networks Sales by Product Group |           
|                  |  | 2010                                       |            | 2009 |  
|Media converters  |  | $                                          | 37,176,000 |      | $ | 29,120,000 | 
|Ethernet
switches |  |                                            | 3,153,000  |      |   | 2,570,000  | 
|Ethernet
adapters |  |                                            | 5,692,000  |      |   | 5,776,000  | 
|Other
products    |  |                                            | 3,843,000  |      |   | 2,344,000  | 
|                  |  | $                                          | 49,864,000 |      | $ | 39,810,000 | 

Gross margin
on the first nine months of Transition Networks sales increased to $27,178,000
in 2010 from $20,936,000 in 2009. Gross margin as a percentage of sales was 55%
in 2010, compared to 53% in the 2009 period, due to the mix of products with an
increase in some higher margin conversion products and lower operating expenses
for the indirect costs related to gross margin. Selling, general and
administrative expenses increased 9% to $15,772,000 in 2010 compared to
$14,463,000 in 2009 due to the hiring of new employees and an increase in
selling expenses. Operating income increased to $11,406,000 in 2010 compared to
$6,473,000 in 2009.

JDL Technologies, Inc.

JDL
Technologies, Inc. reported 2010 first nine months sales of $9,384,000 compared
to $8,107,000 in 2009.

JDLs revenues
by customer group were as follows:

|                          |  |                               |           |      |   |           | 
|------------------------- |  | ----------------------------- | --------- | ---- | - | --------- | 
|                          |  | JDL Revenue by Customer Group |          
|                          |  | 2010                          |           | 2009 |  
|Broward
County FL schools |  | $                             | 9,167,000 |      | $ | 7,982,000 | 
|All other                 |  |                               | 217,000   |      |   | 125,000   | 
|                          |  | $                             | 9,384,000 |      | $ | 8,107,000 | 

20

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Revenues earned
in Broward County FL increased $1,185,000 or 15% in 2010. The increase was the
result of increased IT infrastructure contract funding from the federal
government.

JDL gross
margin increased 54% to $4,185,000 in the first nine months of 2010 compared to
$2,715,000 in the same period in 2009. Gross margin as a percentage of sales
increased to 45% in 2010 from 33% in 2009 due to purchasing discounts and
rebates the Company was able to take advantage of during the year. Selling,
general and administrative expenses increased 11% in 2010 to $1,055,000
compared to $948,000 in 2009 due to increased travel and relocation costs due
to a change in management in the first quarter 2010 and increased compensation
expenses. JDL reported operating income of $3,130,000 in the first nine months
of 2010 compared to $1,767,000 in the same period of 2009.

Austin Taylor

Austin
Taylors revenues increased 5% to $2,494,000 for the first nine months of 2010,
compared to $2,381,000 in 2009. This increase is due to deeper sales penetration
into UK distribution and an aggressive product development approach Austin
Taylor has implemented with existing and new accounts. Gross margin increased
135% to $237,000 in 2010 from $101,000 in 2009. Gross margin as a percentage of
sales was 9% in 2010 compared to 4% in 2009. This increase was due to increased
efficiencies in manufacturing and sharper focus on out-sourced suppliers.
Austin Taylor reported an operating loss in 2010 of $617,000 compared to
$738,000 in 2009.

Other

Net investment
income decreased 97% to $19,000 in 2010 as compared to $579,000 in 2009. This
decrease is due to unrealized foreign exchange losses due to the decline in the
Euro against the dollar and decreasing interest rates. Income before income
taxes increased to $12,635,000 in 2010 compared to $8,473,000 in 2009. The
Companys effective income tax rate was 39% in 2010 and 43% in 2009. This
effective rate was higher than the standard rate of 35% due to state income
taxes, foreign losses not deductible for U.S. income tax purposes, income tax
return to provision adjustments, and provisions for interest charges as
explained in Note 6 above.

Liquidity and Capital Resources

At September
30, 2010, the Company had approximately $40,089,000 of cash equivalents and
investments compared to $40,069,000 of cash equivalents and investments at
December 31, 2009. The Company had current assets of approximately $84,951,000
and current liabilities of $13,314,000 at September 30, 2010 compared to
current assets of $76,967,000 and current liabilities of $12,754,000 at
December 31, 2009.

Net cash
provided by operating activities was $4,977,000 in the first nine months of
2010 compared to $15,223,000 in the same period in 2009. Significant working
capital changes from December 31, 2009 to September 30, 2010 included an
increase in accounts receivable of $5,316,000 due to an overall increase in
sales in the third quarter of 2010 as compared to the fourth quarter of 2009
and an increase in income taxes payable due to higher taxable income and timing
of tax payments.

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Net cash used
in investing activities was $8,097,000 in the first nine months in 2010
compared to cash used of $18,110,000 in the same period in 2009. During the
first nine months of 2010, the Company continued to purchase certificates of
deposit with maturities of greater than 90 days during the quarter and
increased its investments from $18.8 million at December 31, 2009 to $25.7
million at September 30, 2010.

Net cash used
in financing activities was $3,776,000 and $3,334,000 in the first nine months
of 2010 and 2009, respectively. Cash dividends paid in the first nine months of
2010 were $3,599,000 ($.43 per common share) compared to $3,164,000 ($.38 per
common share) in the same period in 2009. Proceeds from common stock issuances,
principally issued under the Companys Employee Stock Purchase Plan, totaled
approximately $100,000 in the first nine months of 2010 and $140,000 in the
same period in 2009. In the first nine months of 2010, the Company did not
purchase any of its outstanding common shares. At September 30, 2010, 481,938
additional shares could be repurchased under outstanding Board authorizations.
The Company has a $10,000,000 line of credit from U.S. Bank. Interest on
borrowings on the credit line is at the LIBOR rate plus 1.5% (1.8% at September
30, 2010). There were no borrowings on the line of credit during the first nine
months of 2010 or 2009. The credit agreement expires September 30, 2011 and is
secured by assets of the Company. As part of the acquisition of the new
Minnetonka headquarters building in July 2007, the Company assumed an
outstanding mortgage of $4,380,000. The mortgage is payable in monthly
installments and carries an interest rate of 6.83%. The mortgage matures on
March 1, 2016. Mortgage payments on principal totaled $94,000 during the third
quarter of 2010. The outstanding balance on the mortgage was $2,497,000 at
September 30, 2010.

In the opinion
of management, based on the Companys current financial and operating position
and projected future expenditures, sufficient funds are available to meet the
Companys anticipated operating and capital expenditure needs.

Critical Accounting Policies

Our critical
accounting policies, including the assumptions and judgments underlying them,
are discussed in our 2009 Form 10-K in Note 1 Summary of Significant Accounting
Policies included in our Consolidated Financial Statements. There were no
significant changes to our critical accounting policies during the three months
ended September 30, 2010.

The Companys
accounting policies have been consistently applied in all material respects and
disclose such matters as allowance for doubtful accounts, sales returns,
inventory valuation, warranty expense, income taxes, revenue recognition, asset
and goodwill impairment recognition and foreign currency translation. On an
ongoing basis, we evaluate our estimates based on historical experience and on
various other assumptions that we believe to be reasonable under the
circumstances, the result of which form the basis for making judgments about
the carrying value of assets and liabilities that are not readily apparent from
other sources. Results may differ from these estimates due to actual outcomes
being different from those on which we based our assumptions. Management
reviews these estimates and judgments on an ongoing basis.

Recently Issued Accounting Pronouncements

We do not
believe there are any recently issued accounting standards that have not yet
been adopted that will have a material impact on the Companys financial
statements.

22

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Item 3. Quantitative
and Qualitative Disclosures about Market Risk.

The Company
has no freestanding or embedded derivatives. The Companys policy is to not use
freestanding derivatives and to not enter into contracts with terms that cannot
be designated as normal purchases or sales.

The vast
majority of our transactions are denominated in U.S. dollars; as such,
fluctuations in foreign currency exchange rates have historically not been
material to the Company. At September 30, 2010 our bank line of credit carried
a variable interest rate based on the London Interbank Offered Rate (LIBOR)
plus 1.5%. The Companys investments are either money market type of
investments that earn interest at prevailing market rates or certificates of
deposits insured through the FDIC and as such do not have material risk
exposure.

Based on the
Companys operations, in the opinion of management, no material future losses
or exposure exist relative to market risk.

Item 4. Controls
and Procedures

The Company
carried out an evaluation, under the supervision and with the participation of
its management, including the Chief Executive Officer and Chief Financial
Officer, of the effectiveness of the design and operation of the Companys
disclosure controls and procedures (as defined in the Exchange Act Rule
13a-15(e)) as of the end of the period covered by this report. Based upon that
evaluation, the Chief Executive Officer and Chief Financial Officer concluded
that the Companys disclosure controls and procedures are effective.

There was no
change in the Companys internal control over financial reporting that occurred
during the Companys most recently completed fiscal quarter that has materially
affected, or is reasonably likely to materially affect, the Companys internal
control over financial reporting.

PART II. OTHER
INFORMATION

|                                                                   
|-------------------------------------------------------------------
|Item 1.
Legal Proceedings                                          
|Not
Applicable.                                                    
|                                                                   
|Item 1A.
Risk Factors                                              
|Not
Applicable.                                                    
|                                                                   
|Item 2.
Unregistered Sales of Equity Securities and Use of Proceeds
|Not applicable.                                                    
|                                                                   
|Item 3.
Defaults Upon Senior Securities                            
|Not
Applicable.                                                    
|                                                                   
|Item 4.
[Removed and Reserved]                                     
|                                                                   
|Item 5.
Other Information                                          
|Not
Applicable                                                     

23

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Table of Contents

|                
|----------------
|Item 6
Exhibits.

| |                                             |                                                                                                                                                  
| | ------------------------------------------- | -------------------------------------------------------------------------------------------------------------------------------------------------
| | The
following exhibits are included herein:
| |                                             |                                                                                                                                                  
| | 10.1                                        | Consulting
Agreement dated December 18, 2008 between Communications Systems, Inc. and
Curtis A. Sampson                                          
| | 31.1                                        | Certification
of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act
of 2002 (Rules 13a-14 and 15d-14 of the Exchange Act).
| | 31.2                                        | Certification
of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act
of 2002 (Rules 13a-14 and 15d-14 of the Exchange Act).
| | 32.                                         | Certifications
pursuant Section 906 of the Sarbanes-Oxley Act of 2002 (18 U.S.C. §1350).                                                         

24

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Table of Contents

Signatures

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

|                        |    |                                       | 
|----------------------- | -- | ------------------------------------- | 
|                        |    | Communications
Systems, Inc.          | 
|                        |    |                                       | 
|                        | By | /s/ Jeffrey
K. Berg                   | 
|                        |    | Jeffrey K.
Berg                      
|Date:
November 10, 2010 |    | President
and Chief Executive Officer
|                        |    |                                       | 
|                        |    | /s/ David T.
McGraw                   | 
|                        |    | David T.
McGraw                      
|Date:
November 10, 2010 |    | Chief
Financial Officer              

25

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