UNITED
STATES


SECURITIES
AND EXCHANGE COMMISSION


Washington,
D.C. 20549




FORM
10-K




(Mark
One)


x ANNUAL REPORT PURSUANT
TO SECTION 13 OR 15(d) OF THE SECURITIES AND


EXCHANGE
ACT OF 1934


FOR THE
FISCAL YEAR ENDED DECEMBER 31, 2008




OR




o TRANSITION REPORT
PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES AND


EXCHANGE
ACT OF 1934




Commission
File No. 005-62411





HENRY
BROS. ELECTRONICS, INC.


(EXACT NAME OF REGISTRANT AS SPECIFIED
IN ITS CHARTER)









Delaware
            
            22-3690168(State
      or other jurisdiction of incorporation or organization)
            
            (I.R.S.
      Employer Identification No.)17-01
      Pollitt Drive, Fair Lawn, NJ
            
            07410(address
      of principal executive offices)
            
            (Zip
      Code)





(201)
794-6500


(Registrant’s
telephone number, including area code)





Securities
registered pursuant to Section 12(b) of the Act: None





Securities
registered pursuant to Section 12(g) of the Act:









Title of each
      class:
            Name of each
      exchange on which registered:Common Stock, $.01
      par value
            American Stock
      Exchange







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




Indicate
by check mark if the registrant is not required to file reports pursuant to
Section 13 or Section 15(d) of the Act. Yes o    No
x.




Indicate
by check mark whether the registrant (1) has filed all reports required to
be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934
during the preceding 12 months (or 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. Yesx   No o





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





Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, or a non-accelerated filer. See definition of ‘accelerated
filer and large accelerated filer’ in Rule 12b-2 of the Securities Exchange Act
of 1934. (Check one): Large accelerated filer oAccelerated 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 Securities Exchange Act of 1934). Yes o   
No x.




At June
30, 2008, the last business day of the Registrant’s most recently completed
second fiscal quarter, the aggregate market value of the voting and non-voting
common equity held by non-affiliates of the Registrant was $14,363,279 (based on
the closing price of the registrant’s common stock on the American Stock
Exchange on such date).





Indicate
the number of shares outstanding of each of the registrant’s classes of common
stock, as of the latest practicable date:


Classes:
            
            Outstanding at
      March 1, 2009Common
      Stock, par value $.01 per share
            
            5,983,550





Documents
Incorporated by
Reference:      None









HENRY
BROS. ELECTRONICS, INC.


Table of
Contents




PART IItem
      1. Business
                                                                    3Item
      1A.  Risk Factors
                                                                    9Item
      1B.  Unresolved Staff Comments
                                                                    11Item
      2. Properties
                                                                    11Item
      3. Legal Proceedings
                                                                    13Item
      4. Submission of Matters to a Vote of Security Holders
                                                                    13PART
      IIItem
      5. Market for Registrant’s Common Equity and Related Stockholder Matters
      and Issuer Purchases of Equity Securities
                                                                    13Item
      6. Selected Financial Data
                                                                    15Item
      7. Management's Discussion and Analysis of Financial Condition and Results
      of Operations
                                                                    15Item
      7A. Quantitative and Qualitative Disclosures About Market
    Risk
                                                                    25Item
      8. Financial Statements and Supplementary Data
                                                                    25Item
      9. Changes in and Disagreements with Accountants on Accounting and
      Financial Disclosure
                                                                    25Item
      9A. Controls and Procedures
                                                                    26Item
      9B. Other Information
                                                                    27PART
      IIIItem
      10. Directors, Executive Officers and Corporate Governance
                                                                    28Item
      11. Executive Compensation
                                                                    32Item
      12. Security Ownership of Certain Beneficial Owners and Management and
      Related Stockholders Matters
                                                                    38Item
      13. Certain Relationships and Related Transactions and Director
      Independence
                                                                    41Item
      14. Principal Accountant Fees and Services
                                                                    41PART
      IVItem
      15. Exhibits, Financial Statement Schedules
                                                                    42Signatures
                                                                    43Financial Statements and Accompanying
Notes
                                                                    F-1


2




PART
I




Item
      1.
            Business




Business
Development.




In 1950,
John, Ray, and Hartford Henry founded Henry Bros. Electronics.  They
sold Henry Bros. Electronics to Communication Group, Inc. (“CGI”) in
1985.  In 1989, Jim Henry, our Chairman and Chief Executive Officer,
and Irvin Witcosky, our former President and Chief Operating Officer reacquired
certain assets, including the name Henry Bros. Electronics from CGI. In 1991 we
acquired the assets of the former Motorola CCTV division and formed Viscom
Products, Inc. (“Viscom”). In 1999 we formed a company named Integcom Corp.,
incorporated in Delaware, into which we transferred both HBE and Viscom. In
2001, we changed our name to Diversified Security Solutions, Inc. and in 2005 we
changed our name to Henry Bros. Electronics, Inc. (“HBE”).  Following
is a listing of key business developments since the inception of
HBE:




·
            In
      November 2001, we completed our initial public offering, including the
      underwriter’s over-allotment option of an aggregate of 1,725,000 shares of
      common stock. Our shares are traded on the NASDAQ under the ticker symbol
      HBE.




·
            In
      May 2002, we purchased Photo Scan Systems, Inc. (“Photo Scan”) a security
      integrator located in southern California and changed its name to Henry
      Bros. Electronics, Inc. in December
2002.




·
            In
      August 2002, Photo Scan acquired National Safe of California, Inc. which
      sells and services alarm security equipment, lock and timing mechanisms,
      vault security, control and backup systems and high resolution security
      equipment used by commercial banks.




·
            In
      September 2002, Photo Scan acquired Corporate Security Integration, LLC
      (“CSI”) a security integrator located in Phoenix, Arizona, and
      subsequently changed its name to Henry Bros. Electronics,
    LLC.




·
            In
      April 2004, we acquired Airorlite Communications, Inc. (“Airorlite”), a
      company located in New Jersey that specializes in the design, manufacture
      and maintenance of wireless communications equipment used to enhance
      emergency radio frequency services and cellular communication for both
      fixed and mobile applications.




·
            In
      October 2005, we acquired Securus, Inc. a security integrator with offices
      in Denver and Colorado Springs,
Colorado.




·
            In
      October 2006, we acquired CIS Security Systems Corp. (“CIS”), a
      privately-held security systems integrator with offices in Baltimore,
      Maryland and Newington, Virginia and acquired certain assets of Southwest
      Securityscan, Inc. (SSI), a privately-held company headquartered in
      Duncanville, Texas that provides installation, service and monitoring of
      access, surveillance and alarm
systems.




Our
principal executive offices are located at 17-01 Pollitt Drive, Fair Lawn, New
Jersey 07410, and our telephone number is (201) 794-6500.


3




Business
of Issuer




We are an
established leader in the electronic physical security industry providing
technology-based integrated electronic security systems, services and emergency
preparedness consultation to commercial enterprises and government
agencies.




Security
Distributing and Marketing magazine (“SDM”) ranks by each of their 2007 revenue
the top 100 largest firms selling closed circuit TV (“CCTV”), access control and
integrated security systems.  We were ranked No. 14 in SDM's Top
Systems Integrators Report published in July 2008. As a single-source/turn-key
provider of diversified technology-based integrated security solutions, we can
expedite project completion and optimize system manpower performance. The
continually evolving security requirements of commercial and government
entities, together with rapidly advancing technology, provides numerous
opportunities for us to assist our clients with their security
needs.




We
believe that the following key attributes provide us with a sustainable
competitive advantage:


·
                  Experience
      and expertise;·
                  Technological
      know-how;·
                  Commitment
      to customer service; and·
                  Strong list of
      references.




Our Vision and
Strategy




Our
vision is to maintain our leadership position in security technology. We
intend to do this in part by:


·
            Providing
      advice on product selection and system
design;


·
              Examining
      and thoroughly testing each security product as it would be set up for use
      in our customers’ facilities;
and


·
            Using
      only systems and components that are reliable and efficient to
      use.




In
addition to growing the business organically, we have been actively pursuing the
strategic acquisition of synergistic integrators and specialty products and
service companies to further fuel steady growth.  Consistent with our
expansion strategy, we have acquired seven companies since May of
2002.




Business
Segments




Our
operations are divided into two business segments – Security System Integration
(“Integration”) and Specialty Products and Services (“Specialty”). The
Integration segment provides a cradle to grave services for a wide variety of
security, communications and control systems.  The Company specializes
in turn-key systems that integrate many different
technologies.  Systems are customized to meet the specific needs of
its customers. Through the Specialty segment we provide emergency preparedness
programs, and specialized radio frequency communication equipment and
integration.  Each of the Company’s segments markets its products and
services nationwide with an emphasis in Arizona, California, Colorado, Maryland,
New Jersey, New York, Texas and Virginia. Customers are primarily medium and
large businesses and governmental agencies. The Company derives a majority of
its revenues from project installations and to a smaller extent, maintenance
service revenue.


4






Integration
Segment




At the
beginning of each new client relationship, we designate one member of our
professional staff as the client service contact. This individual is the point
person for communications between the client and us and often serves as the
client's project manager for all of its security needs. Our engagement may
include:




·
            Consulting
      and planning; ·
                Engineering
      and design;
 ·
                  Systems
      installation and management;·
                  Systems
      training; and·
                  Maintenance
      and technical support.




Consulting
and Planning




Security
consulting and planning are the initial phases of determining a security
solution for a project. We have developed a planning process that identifies all
systems, policies and procedures that are required for the successful operation
of a security system that will both meet a client's current needs and
accommodate its projected future requirements. Our consulting and planning
process includes the following steps:




·
              Identify
      the client's objectives and security system
  requirements; ·
                  Survey
      the site(s), including inventory of physical components and software and
      evaluation of client's existing infrastructure and security
      system;
 ·
                        Assess
      and prioritize the client's vulnerabilities;·
                        Develop
      and evaluate system alternatives;·
                        Recommend
      a conceptual security plan design;·
                        Estimate
      the cost of implementing the conceptual plan; and·
                        Develop
      a preliminary implementation
schedule.




As a
result of this process, we provide the client with a master plan for an
effective security solution that addresses routine operating needs as well as
emergency situations.




We
believe that our comprehensive planning process enables our clients to budget
for their security requirements on a long-term basis, identify opportunities for
cost reduction and prepare for future risks.




Engineering
and Design




The
engineering and design process involves preparation of detailed project
specifications and working drawings by a team of our engineers, systems
designers and computer-aided design system operators.  These
specifications and drawings detail the camera sensitivity requirements, layout
of the control center, placement of cameras, card readers and other equipment
and electrical requirements. Throughout our engineering and design process, our
goal is to understand our client's operational preferences in order to design a
system that is functional, cost-effective and accommodates our client's present
and future requirements. In addition, we attempt to incorporate our client's
existing personnel, equipment and other physical resources into the system
design.


5




When
retained as a single-source provider for turn-key security solutions, we select
system components required under the specifications and drawings. We recommend
that our customers buy proven off-the-shelf devices and software and resort to
custom equipment only when absolutely necessary.




We have
made a strategic decision not to represent any equipment manufacturer
exclusively, thereby maintaining objectivity and flexibility in equipment
selection. We believe that our technical proficiency with the products available
from a wide range of manufacturers enables us to select components that will
best meet a project's requirements.




Systems
Installation and Management




Under the
supervision of the manager of the project, our technicians install hardware,
integrate hardware and software, and validate and test the system.
Subcontractors typically perform the aspects of systems integration that do not
require a high level of technical expertise, such as wire installation and basic
construction. Components that may be integrated in a security system include the
following:


·
            Access
      control systems, which are designed to exclude unauthorized personnel from
      specified areas;


·
            Intrusion
      detection systems, which detect unauthorized door and window openings,
      glass breakage, vibration, motion, noise and alarms and other peripheral
      equipment;


·
            Closed
      circuit television systems, which monitor and record entry and exit
      activity or provide surveillance of designated
  areas;


·
            Critical
      condition monitoring systems, which provide alarm monitoring and
      supervision of various systems and facilities;
  and


·
            Intercoms,
      public address systems, fire detection signals and network connectivity
      that can expand a local security system into a closely controlled
      worldwide system.




Systems
Training




Upon
completion of a systems integration project, we typically will provide the
customer with system documentation and training in the operation and maintenance
of the system.




Maintenance
and Technical Support




We
provide maintenance and technical support services on a scheduled, on-call, or
emergency basis. These services include developing and implementing maintenance
programs both for security systems designed, engineered, or integrated by us and
for existing systems.




Specialty
Segment




Airorlite
specializes in designing, manufacturing and maintaining wireless communications
equipment used to enhance and extend emergency radio frequency services and
cellular communication for both fixed and mobile applications. Our Diversified
Securities Solutions, Inc. division (formerly our EPP division) works with
high-rise office building management to analyze their specific facilities needs
relating to emergency response plans and the communication and training of such
plans to the building community.


6




Marketing




Our
marketing activities are conducted on both national and regional levels. We
obtain engagements through direct negotiation with clients, competitive bid
processes and referrals. At the national level, we conduct analyses of various
industries and target those with significant demand for security
solutions.




We have
developed expertise in the security regulations applicable to airports and
seaports, high-rise buildings, public transportation systems, healthcare,
financial, educational and other vertical markets.  We have identified
several key industries or facility types that we believe have substantial and
increasing requirements for security services, including corporate campuses and
federal facilities.




Customers




We
provide our products and services to customers in the public and private sectors
through direct sales to end-users and through subcontracting agreements and have
provided services to customers representing each of the vertical markets
described under Marketing.




Suppliers




We
procure components and finished products from a variety of suppliers as needed
through purchase orders. We actively manage this process to ensure component
quality, steady supply and best costs. While there could be a short-term
disruption in qualifying vendors, we believe that the components we utilize
could be obtained from alternative sources, or that our products could be
redesigned to use alternative suppliers’ components, if necessary.




Competition


The
security industry is highly fragmented and competitive. We compete on a local,
regional and national basis with systems integrators, consulting firms and
engineering and design firms. Our competitors include equipment manufacturers
and vendors that also provide security services. Many of our competitors have
greater name recognition and financial resources.  We believe that we
compete primarily on our ability to deliver solutions that effectively meet a
client's requirements and, to a lesser extent and primarily in competitive bid
situations, on price. Many of the larger public sector projects require
performance bonds, which may limit our ability to compete with larger
competitors as the prime contractor, depending upon the specifications of the
project.




Employees




As of
March 10, 2009, we had 246 full time employees, including officers, of whom: 154
were engaged in engineering, systems installation and maintenance services, 52
in administration and accounting, and 40 in marketing and sales. None of our
employees are covered by a collective bargaining agreement or are represented by
a labor union. We consider our relationship with our employees to be
satisfactory.




Our
business requires substantial technical capabilities in many disciplines, from
mechanics and computer science to electronics and advanced software. We
emphasize continued training for new and existing technical personnel.
Accordingly, we conduct training classes and seminars in-house, send select
employees to technical schools and avail ourselves of training opportunities
offered by equipment manufacturers and other specialists on a regular
basis.


7




Seasonality




Revenue
generated by our services have typically been seasonal in nature and there could
be periods of fluctuations in revenue volume due to the timing of project
installations or factors that are beyond the Company’s control, such as weather
and construction delays.




Backlog




At
December 31, 2008, the dollar amount of backlog believed to be firm was
$23,701,243. At December 31, 2007, our backlog was $26,567,167.




All
orders are subject to modification or cancellation by the customer with limited
changes. We believe that backlog may not be indicative of actual sales for the
current fiscal year or any succeeding period.




Pricing




We employ
a variety of pricing strategies for our services. Systems integration project
pricing is based upon the estimated cost of the equipment for the project
including a profit margin, plus the estimated hours for each skill set, required
to complete the project multiplied by the fully burdened hourly rate, plus a
profit margin.  Pricing for engineering and maintenance services are
determined based on the scope of the specific project and the length of our
engagement. Proposals for consulting and threat assessment services are priced
based on an estimate of hours, multiplied by standard selling rates or on a
project basis.







AVAILABLE
INFORMATION




We
maintain an Internet website at the following address: www.hbe-inc.com. The
information on our website is not incorporated by reference into this Annual
Report on Form 10-K. We make available on or through our website certain reports
and amendments to those reports that we file with or furnish to the Securities
and Exchange Commission (the “SEC”) in accordance with the Securities Exchange
Act of 1934. These include our annual reports on Form 10-K, our quarterly
reports on Form 10-Q and our current reports on Form 8-K. We make this
information available on our website free of charge, as soon as reasonably
practicable, after we electronically file the information with, or furnish it
to, the SEC.




FORWARD-LOOKING
STATEMENTS




This
report includes forward-looking statements within the meaning of Section 27A of
the Securities Act of 1933, as amended, and Section 21E of the Securities and
Exchange Act of 1934, as amended. Forward looking statements may be identified
by such words or phrases as “believe,” “expect,” “intend,” “estimate,”
“anticipate,” “project,” “will,” “may” and similar expressions. All statements
that address operating performance, events or developments that we expect or
anticipate will occur in the future are forward-looking statements. The
forward-looking statements used herein are not guarantees of future performance
and involve a number of risks and uncertainties. Factors that might cause actual
results to differ materially from the expected results described in or
underlying our forward-looking statements include:




·
            Conditions
      in the general economy and in the markets served by
  us;


·
            Competitive
      factors, such as price
pressures;


8





·
            Interruptions
      of suppliers’ operations or the refusal of our suppliers to provide us
      with component materials; and


·
            The
      risk factors listed from time to time in our SEC
      reports.




This list is not exhaustive. Except as
required under federal securities laws and the rules and regulations promulgated
by the SEC, we do not have any intention or obligation to update publicly any
forward-looking statements after the filing of this Annual Report on Form 10-K,
whether as a result of new information, future events, changes in assumptions or
otherwise.




Item
1A.      Risk Factors




Our business, operations and financial conditions are
subject to various risks.  Some of these are described
below.  This section does not describe all risks that may be applied
to our Company, our industry or our business and is intended only as a summary
of certain material risk factors.




Current economic conditions may
cause a decline in business spending which could adversely affect our business
and financial performance.




Our
operating results are impacted by the health of the U.S economy.  Our
business and financial performance may be adversely affected by current and
future economic conditions, such as a reduction in the availability of credit to
our customers and recession.




We
are dependent upon a small number of customers for a large portion of our
revenues.




We have a
small number of customers from which we receive a large portion of our
revenues.  Our work with our largest customer accounted for 6.8% of
total revenue during 2008, with our five largest customers represented
approximately 22.2% of our 2008 revenue. Revenues from governmental agencies
accounted for 36.7% in 2008, versus 40.7% and 22.6% in 2007 and 2006,
respectively.  Consequently, we are often required to replace one
customer with one or more other customers in order to generate the same amount
of revenues.  There can be no assurance that we will continue to be
able to do so.




Some
of our orders and contracts may be cancelled or modified so there is a risk that
our backlog may not be fulfilled.




Some of
our orders and contract backlog are subject to cancellation or modification by
our customers at any time so we cannot be certain that we will fully recognize
revenue from them. At December 31, 2008, the dollar amount of backlog believed
to be firm was $23,701,243.




We
are dependent on a few vendors and rely on timely delivery of equipment from
outside sources.




There are
a few vendors from whom we obtain devices and software for specific access
control, imaging, remote transmission, smart key and mobile applications. The
loss of any one of these companies as suppliers could have a materially adverse
impact on our business, financial condition and results of operations if we are
unable to develop or acquire new technologies from other sources. We believe
there are alternative vendors to source such products.


9




Timely
vendor deliveries of equipment meeting our quality control standards from all
suppliers are also important to our business because each installed system
requires the integration of a variety of elements to be fully functional. The
failure to deliver any component when required, in operating condition, can
delay the project, triggering contract penalties, delay in progress payments and
may result in cancellation of the project.




We
have not been consistently profitable and may not be profitable in the
future.




For the
years ended December 31, 2008, 2007 and 2006 our revenues were $62,357,466,
$57,852,216 and $42,132,852, respectively.  Our net income was
$1,557,756 for the year ended December 31, 2008.  However, we had a
net loss of $303,304 and $2,260,138 million for the years ended December 31,
2007 and 2006, respectively.  We can make no assurances that we will
be profitable in the future.




We
experience intense competition for business from a variety of
sources.




In
systems integration, we compete for new business with large construction firms,
electrical contractors and consultants in the security business and other
systems integrators. Many of our competitors are much larger and have greater
resources.  In order to effectively compete in the future, we may have
to charge less for our services, which may result in lower profit
margins.




We
rely on a key executive.




James E.
Henry is vital to our business. Losing him could have a materially adverse
impact on our business, financial condition or results of
operations.




Our
business and growth will suffer if we are unable to hire and retain highly
skilled personnel.




Competition
for highly skilled employees is intense in our industry. The design and
manufacture of equipment, and the installation of our systems, requires
substantial technical capabilities in many disparate disciplines from mechanics
and computer science to electronics and advanced software. Our future success
depends on our ability to attract, train, motivate and retain highly skilled
employees. If we are unable to hire and retain skilled personnel, our growth may
be restricted, the quality of our products and services diminished and our
revenues and the value of your investment reduced. There is no assurance that we
will be able to retain our skilled employees or attract, assimilate and retain
other highly skilled employees in the future.




Lengthy
revenue cycles.




Revenue
from our services and products frequently involves a substantial commitment of
resources to evaluate a potential project and prepare a proposal. In addition,
approval of proposals often involves a lengthy process due to clients' internal
procedures and capital expenditure approval processes.  We may not be
awarded a project that we have prepared a proposal for and, even if we are, a
substantial period of time may elapse from when we make a proposal to when we
can recognize revenues from the project.




Seasonality.




Revenues
of our services have typically been seasonal in nature and there could be
periods of fluctuations in revenue volume due to the timing of project
installations or factors that are beyond the Company’s control, such as weather
and construction delays.


10




We
may make acquisitions or form joint ventures that are unsuccessful.




Part of
our growth strategy involves acquisitions or joint ventures with other system
integrators. This strategy is subject to the following risks, the occurrence of
which could have a materially adverse impact on our business, financial
condition or results of operations:




·
            We
      may not be able to identify suitable acquisition and joint venture
      candidates.


·
            If
      the purchase price of an acquisition includes cash, we may need to use a
      significant portion of our available cash or credit facility with our
      bank.


·
            We
      could have difficulty assimilating the acquired company's operations and
      personnel or working with the joint venture.  These difficulties
      could disrupt our ongoing business, distract our management and employees
      and increase our costs.


·
            We
      may not be able to retain key employees of the acquired companies or
      maintain good relations with its customers or
  suppliers.


·
            We
      may be required to incur additional
debt.


·
            We
      may be required to issue equity securities to pay for such acquisition,
      which will dilute existing
shareholders.


·
            We
      may have to incur significant accounting charges, such as for an
      impairment of intangible assets, which may adversely affect our results of
      operations.




The trading volume in our common stock fluctuates and as
a result you may find it difficult to sell your shares of our common
stock.




Our common stock is listed on the Nasdaq Stock
Market.  Trading in our common stock fluctuates and on some days is
minimal.  Failure to maintain an active trading market in our common
stock could negatively affect the price of our common stock and your ability to
sell our common stock.




Item 1B.     Unresolved Staff
Comments




None.




Item
2.  Properties




A
description of the facilities we lease follows:




·
            31,801
      square foot sales, office, training and warehouse facility that also
      serves as our corporate office in Fair Lawn, New Jersey.  This
      facility is a portion of a single-story, cinder block building in a
      commercial and industrial park. The lease on this space terminates on
      October 31, 2016, and provides for an annual rent of $214,657 (escalates
      yearly) until that date, payable in equal monthly installments of $17,888,
      plus taxes of approximately $5,414 per month. We are also responsible for
      the cost of property tax increases, utilities, repairs, maintenance,
      alterations, cleaning and
insurance.




·
            8,980
      square foot sales, office and warehouse facility in Fullerton, California.
      A two-story, concrete building in an office complex, this space is leased
      until November 15, 2011 at an average annual rent of $113,148 and has an
      annual escalation clause, payable in equal monthly installments of $9,429,
      with additional costs for maintenance, insurance, repairs and alterations,
      utilities, property tax increases and
cleaning.


11




·
            4,749
      square foot sales, office and warehouse facility in Irving, Texas near the
      Dallas-Fort Worth Airport. A single-story, cinder block building in an
      office complex, this space is leased until August 1, 2015 at an annual
      average rental of $39,600, payable in equal monthly installments of
      $3,300, with additional costs for insurance, repairs and alterations,
      utilities, property taxes and
cleaning.




·
            7,628
      square foot sales, office and warehouse facility in Phoenix, Arizona near
      the Phoenix Airport. A single-story, concrete building in an office
      complex, this space is leased until August 2012 at an average annual
      rental of $107,388, payable in average monthly installments of $8,949,
      with additional costs for insurance, repairs and alterations, utilities,
      taxes increases and cleaning.




·
            2,711
      square foot office space in New York City for sales and project management
      personnel. This lease commenced on December 29, 2006, with an annual
      rental of $68,962, payable in monthly installments of $5,747, not
      including utilities.  The lease escalates yearly and expires
      February 29, 2012.




·
            16,045
      square foot sales, office and warehouse facility in Denver, Colorado. This
      facility is in a single-story, cinder block building in a commercial and
      industrial park. The lease on this space terminates April 2010 and
      provides for an annual rent of $88,248 until that date, payable in equal
      monthly installments of $7,354, with additional costs for property taxes,
      utilities, repairs, maintenance, alterations, cleaning and
      insurance.




·
            3,500
      square foot sales, office and warehouse space in Colorado Springs,
      Colorado.  This facility is in a single story multi-office
      complex.  The lease terminates December 2010 and provides for an
      annual rent of $25,760 and has an annual escalation clause, payable in
      equal monthly installments of $2,147, with additional costs for property
      taxes, utilities, repairs, maintenance, alterations, cleaning and
      insurance.




·
            2,400
      square foot sales, office and warehouse facility in Grand Junction,
      Colorado.   This facility is a structural steel building
      with aluminum siding.   The annual rent is $12,000 payable
      in equal monthly installments of $1,000.  There are additional
      costs for taxes, utilities, maintenance, alterations, cleaning and
      insurance.  The lease on this space expires on November 30,
      2009.




·
            4,800
      square foot sales, office and warehouse facility in Newington,
      Virginia.  This facility is in a single story multi-office
      complex.  The annual rent is $78,930 and has an annual
      escalation clause. The lease expires on July 31, 2010. The lease includes
      utilities.




·
            2,400
      square foot sales office facility in Baltimore, Maryland.  This
      facility is in a single story brick multi-office complex. The annual rent
      is $27,840 and has an annual escalation clause.  The lease
      expires on August 31, 2011. There are additional charges for trash
      removal, gas and common area
maintenance.




These
facilities or similar facilities should meet our operational needs for the
foreseeable future.


12




Item
3.  Legal Proceedings





In July
2007, an accident occurred in Corona, California involving one of the Company’s
vehicles. The operator of a motorcycle was killed in the accident. In December
2007, his family commenced litigation against the former Company employee who
was driving the vehicle, as well as the Company.  In the fourth
quarter 2008, the case was settled by our insurance carrier.  In January
2009, a motion was filed by our insurance carrier requesting that the
court deem that the settlement was entered into in good faith.  A
court hearing on that motion is scheduled for April 16, 2009.




We know
of no other material litigation or proceeding, pending or threatened, to which
we are or may become a party.




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




At our
2008 Annual Meeting of Stockholders, held on November 12, 2008, the following
individuals, constituting all of the members of the Board of Directors, were
elected. For each elected director the results of the voting were:




Name
                  
                  Number of
                    votes for
                  
                  
                  Number of
                    votes withheldJames
      E. Henry
                  
                  
                  4,485,563
                  
                  
                  
                  1,372,170Brian
      Reach
                  
                  
                  4,374,277
                  
                  
                  
                  1,483,456Robert
      L. De Lia Sr.
                  
                  
                  4,485,642
                  
                  
                  
                  1,372,091James
      W. Power
                  
                  
                  4,475,713
                  
                  
                  
                  1,382,020Joseph
      P. Ritorto
                  
                  
                  4,475,242
                  
                  
                  
                  1,382,491Richard
      D. Rockwell
                  
                  
                  5,687,835
                  
                  
                  
                  169,898David
      Sands
                  
                  
                  4,485,242
                  
                  
                  
                  1,372,491




The stockholders also voted to ratify the
selection of Amper, Politziner & Mattia, LLP as our independent auditors for
2008. The results of the voting for this proposal were 5,831,062 in favor, 1,530
against and 25,141 abstentions.




PART
II




Item
5.   Market for Registrant’s Common Equity and Related
Stockholder Matters and Issuer Purchases of Equity Securities





On
October 1, 2008, we switched the listing of our common stock from the American
Stock Exchange (“AMEX”) to The Nasdaq Stock Market® (“NASDAQ”). Our common
stock, $.01 par value per share, is now traded under the symbol NASDAQ: HBE. The
following table presents high and low sales prices of our common stock as
reported on the NASDAQ or AMEX, as appropriate, for the periods
indicated:


13




The
following table indicates high and low stock prices for each
period.





2008
                      
                      High
                      
                      
                      LowFirst
      Quarter
                      
                      $
                      5.00
                      
                      
                      $
                      4.14Second
      Quarter
                      
                      $
                      6.55
                      
                      
                      $
                      4.95Third
      Quarter
                      
                      $
                      7.10
                      
                      
                      $
                      5.52Fourth
      Quarter
                      
                      $
                      6.80
                      
                      
                      $
                      4.732007
                      
                      High
                      
                      
                      LowFirst
      Quarter
                      
                      $
                      6.25
                      
                      
                      $
                      4.07Second
      Quarter
                      
                      $
                      4.80
                      
                      
                      $
                      3.66Third
      Quarter
                      
                      $
                      5.94
                      
                      
                      $
                      3.60Fourth
      Quarter
                      
                      $
                      5.45
                      
                      
                      $
                      3.85




(a)
            Number
      of Holders of Common Stock.  The number of holders of record of
      our Common Stock on December 31, 2008 was 36. Since a portion of the
      shares of the common stock are held in street or nominee name, it is
      believed that there are significant number of additional beneficial owners
      of common stock.




(b)
            Dividends.  There
      were no cash dividends or other cash distributions made by us during the
      years ended December 31, 2008 and 2007.  Future dividend policy
      will be determined by our Board of Directors based on our earnings,
      financial condition, capital requirements and other existing
      conditions.  It is anticipated that cash dividends will not be
      paid to the holders of our common stock in the foreseeable
      future.




(c)
            In connection with the acquisition of Securus Inc.on October10,2005, the
      Company issued an aggregate of 150,001 shares of its common stock of which
      150,001 are being held in escrow pursuant to the stock purchase escrow
      agreement between the Company and the selling shareholders of Securus,
      Inc.  These shares held in escrow may be earned out
      through December 31, 2010 based upon the aggregate value of the earnings
      before interest and tax (“EBIT”) to $2,960,000. The issuance of the shares of restricted stock in
      connection with the aforementioned transaction was made in reliance upon
      the exemption provided in section 4(2) of the Securities Act of 1933, as
      amended.




(d)
            In connection with the acquisition ofall
      the capital stock of CIS Security Systems Corp. (“CIS”) on October 2,
      2006, the Company issued an
      aggregateof 20,000 shares of its
      common stock.  The Company issued an additional 30,000
      shares of its restricted common stock since the acquisition to CIS’s
      selling shareholder after CIS met certain performance targets. The issuances of the shares of restricted stock in
      connection with the aforementioned transactions was made in reliance upon
      the exemption provided in section 4(2) of the Securities Act of 1933, as
      amended.The selling shareholder may earn an additional
      50,000 shares of the Company’s common stock if CIS achieves certain
      performance targets through December 2011.




(e)
            Securities
      authorized for issuance under equity compensation
  plans.




See Item
12 of this Annual Report on Form 10-K for information about our equity
compensation plans.


14




Item
6.   Selected Financial Data





Years
      ended December 31,2008
                      
                      
                      2007
                      
                      
                      2006
                      
                      
                      2005
                      
                      
                      2004Results
      of operations:Net
      revenues
                      
                      $
                      62,357,466
                      
                      
                      $
                      57,852,216
                      
                      
                      $
                      42,132,852
                      
                      
                      $
                      42,156,188
                      
                      
                      $
                      29,725,718Cost
      of revenue
                      
                      
                      46,465,194
                      
                      
                      
                      45,076,126
                      
                      
                      
                      30,818,832
                      
                      
                      
                      31,581,187
                      
                      
                      
                      22,305,632Selling,
      general and administrative
                      
                      
                      12,797,730
                      
                      
                      
                      12,695,509
                      
                      
                      
                      12,720,381
                      
                      
                      
                      8,422,193
                      
                      
                      
                      6,943,885Net
      income (loss)
                      
                      
                      1,557,756
                      
                      
                      
                      (303,304
                      )
                      
                      
                      (2,260,138
                      )
                      
                      
                      1,137,974
                      
                      
                      
                      169,639Per
      common share:Net
      income (loss)Basic
                      
                      $
                      0.27
                      
                      
                      $
                      (0.05
                      )
                      
                      $
                      (0.39
                      )
                      
                      $
                      0.20
                      
                      
                      $
                      0.03Diluted
                      
                      
                      0.26
                      
                      
                      
                      (0.05
                      )
                      
                      
                      (0.39
                      )
                      
                      
                      0.20
                      
                      
                      
                      0.03Cash
      dividends declared
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -Financial
      position at year-end:Total
      assets
                      
                      $
                      36,610,108
                      
                      
                      $
                      32,331,570
                      
                      
                      $
                      31,371,609
                      
                      
                      $
                      25,161,530
                      
                      
                      $
                      23,372,371Long
      term debt, net of current maturities
                      
                      
                      4,855,662
                      
                      
                      
                      465,539
                      
                      
                      
                      3,463,236
                      
                      
                      
                      727,961
                      
                      
                      
                      168,989Total
      Liabilities
                      
                      
                      20,551,151
                      
                      
                      
                      18,397,478
                      
                      
                      
                      17,360,991
                      
                      
                      
                      9,178,564
                      
                      
                      
                      8,349,395Shareholders'
      equity
                      
                      
                      16,058,957
                      
                      
                      
                      13,934,092
                      
                      
                      
                      14,010,618
                      
                      
                      
                      15,982,966
                      
                      
                      
                      14,653,786




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




Overview




We are an
established leader in the electronic physical security industry, specializing in
integrated security systems and emergency preparedness.  Our
operations are divided into two business segments – Security System Integration
(“Integration”) and Specialty Products and Services (“Specialty”). The
Integration segment provides “cradle to grave” services for a wide variety of
security, communications and control systems.  The Company specializes
in turn-key systems that integrate many different
technologies.  Systems are customized to meet the specific needs of
its customers. Through the Specialty segment we provide emergency preparedness
programs, and specialized radio frequency communication equipment and
integration.  Each of the Company’s segments markets nationwide with
an emphasis in Arizona, California, Colorado, Maryland, New Jersey, New York,
Texas and Virginia. Customers are primarily medium and large businesses and
governmental agencies. The Company derives a majority of its revenues from
project installations and, to a smaller extent, maintenance service
revenue.




Our
Vision and Strategy




Our
vision is to maintain our leadership position in security technology. We
intend to do this in part by:




·
            Providing
      advice on product selection and system
design;


·
            Examining
      and thoroughly testing each security product as it would be set up for use
      in our customers’ facilities;
and


15




·
            Using
      only systems and components that are reliable and efficient to
      use.




In
addition to growing the business organically, we have been actively pursuing the
strategic acquisition of synergistic integrators and specialty products and
service companies to further fuel steady growth.  Consistent with our
expansion strategy, we acquired seven companies since May of 2002, which include
the two acquisitions made in October 2006 (See Note 17 to
the  Consolidated Financial Statements included in this Annual Report
on Form 10-K).




To
finance our acquisitions, we have used a combination of internally generated
cash, the sale of company common stock and bank debt. We currently have a $9
million credit facility with TD Banknorth, which includes a $1 million term loan
of which $103,410 was outstanding at December 31, 2008.  As part of
our credit facility we also have an $8 million revolving credit
facility.   Borrowings under the revolving credit facility were
$4,335,898, at December 31, 2008. It is our expectation and intent to use cash
and to incur additional debt as appropriate to finance future working capital
and acquisitions.  Additionally, to fund future acquisitions we would
consider the issuance of subordinated debt, or the sale of equity securities, or
the sale of existing Company assets.




Trends




We
anticipate that the overall average operating margins for our business to be
approximately 6% for 2009, as compared to operating margins of 5%, essentially
breakeven, and (6.2)% for years 2008, 2007 and 2006, respectively.




There are
several factors impacting operating margins, including levels of competition for
a particular project and the size of the project.  As a significant
amount of our costs are relatively fixed, such as  labor costs,
increases or decreases in revenues can have a significant impact on operating
margins.  The Company continually monitors costs and pursues cost
control measures and sales initiatives to improve operating
margins.




RECENT
ACCOUNTING PRONOUNCEMENTS:




In
October 2008, the FASB issued FSP No. 157-3.  “Determining the Fair
Value of a Financial Asset When the Market for That Asset Is Not Active” ("FSP
157-3”).  FSP 157-3 clarifies the application of SFAS 157 in a market
that is not active and provides an example to illustrate key considerations in
determining the fair value of a financial asset when the market for that
financial asset is not active.  FSP 157-3 was effective for the
Company on September 30, 2008 for all financial assets and liabilities
recognized or disclosed at fair value in our Consolidated Financial Statements
on a recurring basis (or at least annually).





In May
2008, the FASB issued SFAS No. 162.  The Hierarchy of Generally
Accepted Accounting Principles.  The statement is intended to improve
financial reporting by identifying a consistent hierarchy for selecting
accounting principles to be used in preparing financial statements that are
presented in conformity with GAAP.  Prior to the issuance of SFAS No.
162, GAAP hierarchy was defined in the American Institute of Certified Public
Accountants (“AICPA”) Statement on Auditing Standards (SAS) No.
69.  “The Meaning of Present Fairly in Conformity With Generally
Accepted Accounting Principles.”  Unlike SAS No. 69, SFAS No. 162 is
directed to the entity rather than the auditor.  Statement No. 162 is
effective 60 days following the SEC’s approval of the Public Company Accounting
Oversight Board Auditing amendments to AU Section 411.  The Meaning of
Present Fairly in Conformity with Generally Accepted Accounting Principles, SFAS
No. 162 is not expected to have any material impact on the Company’s results of
operations, financial condition or liquidity.


16





Effective
January 1, 2008, the Company adopted SFAS No. 157. “Fair Value
Measurements”.  In February 2008, the Financial Accounting Standards
Board (“FASB”) issued FASB Staff Position No. FAS 157-2.  “Effective
Date of FASB Statement No. 157”, which provides a one year deferral of the
effective date of SFAS No. 157 for non-financial assets and non-financial
liabilities, except those that are recognized or disclosed in the financial
statements at fair value at least annually.  Therefore, the Company
has adopted the provisions of SFAS No. 157 with respect to its financial assets
and liabilities only.  SFAS No. 157 defines fair value, establishes a
framework for measuring fair value under generally accepted accounting
principles and enhances disclosures about fair value
measurements.  Fair value is defined under SFAS No. 157 as the
exchange price that would be received for an asset or paid to transfer a
liability (an exit price) in the principal or most advantageous market for the
asset or liability in an orderly transaction between market participants on the
measurement date.  Valuation techniques used to measure fair value
under SFAS No. 157 must maximize the use of observable inputs and minimize the
use of unobservable inputs.  The standard describes a fair value
hierarchy based on three levels of inputs, of which the first two are considered
observable and the last unobservable, that may be used to measure fair value. The
adoption of this Statement did not have a material impact on the Company’s
consolidated results of operations and financial condition.





In
December 2007, the FASB issued SFAS No. 141 (revised 2007), “Business
Combinations”, or SFAS No. 141R.  SFAS No. 141R replaces SFAS No.
141.  This Statement establishes principles and requirements for how
an acquirer recognizes and measures in its financial statements the identifiable
assets acquired, the liabilities assumed, any non-controlling interest in the
acquiree and the goodwill acquired.  This Statement also establishes
disclosure requirements which will enable users to evaluate the nature and
financial effects of the business combination.  This Statement is
effective for business combinations for which the acquisition date is on or
after the beginning of the first annual reporting period beginning on or after
December 15, 2008.  This Statement will have an impact on future
acquisitions.





In
December 2007, the FASB issued SFAS No. 160.  “Noncontrolling
Interests in Consolidated Financial Statements-an Amendment of Accounting
Research Bulletin No. 51. “ SFAS No. 160 establishes accounting and reporting
standards for ownership interests in subsidiaries held by parties other than the
parent, the amount of consolidated net income attributable to the parent and to
the noncontrolling interest, changes in parent’s ownership interest and the
valuation of retained noncontrolling equity investments when a subsidiary is
deconsolidated.  This Statement also establishes reporting
requirements that provide sufficient disclosures that clearly identify and
distinguish between the interests of the parent and the interests of the
noncontrolling owners.  This Statement is effective for fiscal years
and interim periods within those fiscal years, beginning on or after December
15, 2008.  The Company does not expect the adoption of this Statement
to have a material impact, if any, on the Company’s consolidated financial
statements.


17




Critical
Accounting Policies and Estimates




The
Company’s consolidated financial statements have been prepared in conformity
with generally accepted accounting principles in the United States of America,
which requires management to make estimates and assumptions that affect the
reported amounts of assets and liabilities and disclosure of contingent assets
and liabilities, at the date of the financial statements and the reported amount
of revenues and expenses during the reporting period.  Actual results
could differ from those estimates. Management uses its best judgment in valuing
these estimates and may, as warranted, solicit external professional advice. The
following critical accounting policies, some of which are impacted significantly
by judgments, assumptions and estimates, affect the Company’s consolidated
financial statements.




Revenue
Recognition




Revenue from a project in either the
Integration or Specialty segments are recognized on the percentage of completion
method, whereby revenue and the related gross profit are determined based upon
the actual costs incurred to date for the project to the total estimated project
costs at completion. Project costs generally include all material and shipping
costs, the Company’s direct labor, subcontractor costs and an allocation of
indirect costs related to the direct labor. Changes in the project scope, site
conditions, staff performance and delays or problems with the equipment used on
the project can result in increased costs that may not be billable or accepted
by the customer and results in a loss or lower profit than was originally
anticipated at the time of the proposal.




Estimates
for the costs to complete the project are continuously updated by management
during the performance of the project. Provisions for changes in estimated costs
and losses, if any, on uncompleted projects are made in the period in which such
changes are determined.In general, we determine a
project to be substantially completed after:




1. The scope
of work is completed, which includes installing the equipment as required in the
contract.


2. System is
functional and has been tested.


3. Training
has been provided.




The
majority of the Company’s projects are completed within a year. Revenue from
product sales are recognized when title and risk of loss passes to the
customer.




Service
contracts, which are generally separate and distinct agreements from project
agreements, are billed either monthly or quarterly on the last day of the month
covered by the contract.  Accordingly, revenue from service contracts
are recognized ratably over the length of the agreement. In 2006, 2007 and 2008,
the Company did not bundle any significant service contracts with our systems
installation work.




Trade
Receivables and Allowance for Doubtful Accounts




Trade
receivables are stated at net realizable value.  This value includes
an appropriate allowance for estimated uncollectible accounts. The allowance is
evaluated on a regular basis by management and is based upon historical
experience with the customer, the aging of the past due amounts and the
relationship with and economic status of our customers. The evaluation is based
upon estimates taking into account the facts and circumstances at the time of
the evaluation. Actual uncollectible accounts could exceed our estimates and
changes to its estimates will be accounted for in the period of
change.  Account balances are charged against the allowance after all
means of collection have been exhausted and the potential for recovery is
considered remote.  Our trade receivables are not
collateralized.


18




Inventory
Valuation




Inventory
is stated at the lower of cost or market value.  Cost has been
determined using the first-in, first-out method.  Inventory quantities
on-hand are regularly reviewed, and where necessary, reserves for excess and
obsolete inventories are recorded.




Warranty




The
Company offers warranties on all products, including parts and labor that range
from one year to three years depending upon the type of product
concerned.  For products made by others, the Company passes along the
manufacturer’s warranty to the end user.




Intangible
Assets




The
Company’s intangible assets include goodwill and other intangibles that consist
of the fair value of acquired customer lists, service contracts acquired, trade
names, and covenants not to compete.  Goodwill represents the excess
of purchase price over fair value of net assets acquired at the date of
acquisition.




Effective
January 1, 2002, the Company adopted the provisions of Statement of Financial
and Accounting Standards (SFAS) 142 “Goodwill and Other Intangible
Assets”.   In accordance with that statement, goodwill and
intangible assets with indefinite lives are not amortized, but are tested at
least annually for impairment. Prior to January 1, 2002, the Company had not
recorded goodwill or other intangible assets of indefinite lives. Intangible
assets with estimable useful lives, consisting primarily of acquired customer
lists, service contracts and covenants not to compete are amortized on a
straight-line basis over their estimated useful lives of three to fifteen years
and are reviewed for impairment whenever events or changes in circumstances
indicate that the carrying amount of an asset or asset group may not be
recoverable. If the intangible asset’s remaining useful life is changed, the
intangible asset will be amortized over the remaining useful life. If the asset
being amortized is determined to have an indefinite useful life, the asset will
be tested for impairment. The impairment test will consist of measuring its fair
value with its carrying amount. If the carrying amount of the intangible assets
exceeds its fair value, an impairment loss is recognized for an amount equal to
the excess and the adjusted carrying amount is recognized as its new accounting
basis.




The
Company’s goodwill impairment test is based on a two part procedure consistent
with the requirements of SFAS 142. The first test consists of determining the
fair value of the reporting unit and comparing it to the carrying value of the
reporting unit. If the carrying value of the reporting unit exceeds the fair
value of the reporting unit, a second test is performed. In step two, the
implied fair value of the goodwill (which is the excess of the fair value of the
reporting unit over the fair value of the net assets) is compared to the
carrying value of the goodwill. An impairment loss is recognized for any excess
value of goodwill over the implied value. We determined the reporting unit by
analyzing geographic regions, as management evaluates the Company’s performance
in this manner. We have identified five separate and distinct operating units
for the testing requirements of SFAS 142, and evaluate each reporting unit for
impairment.


19




Income
Taxes




Deferred
taxes are provided on an asset and liability method whereby deferred tax assets
are recognized for deductible temporary differences and operating loss carry
forwards and deferred tax liabilities are recognized for taxable temporary
differences. Temporary differences are the differences between the reported
amounts of assets and liabilities and their tax basis. Deferred tax assets are
reduced by a valuation allowance when, in the opinion of management, it is more
likely than not that some portion or all of the deferred tax assets will not be
realized. Deferred tax assets and liabilities are adjusted for the effects of
changes in tax laws and rates on the date of enactment.




Comparison
of the year ended December 31, 2008 to the year ended December 31,
2007





Analysis
of consolidated statement of operations





For the years ended December
      31,2008
                    
                    
                    2007
                    
                    
                    % changeRevenue
                    
                    $
                    62,357,466
                    
                    
                    $
                    57,852,216
                    
                    
                    
                    7.8
                    %Cost
      of revenue
                    
                    
                    46,465,194
                    
                    
                    
                    45,076,126
                    
                    
                    
                    3.1
                    %Gross
      profit
                    
                    
                    15,892,272
                    
                    
                    
                    12,776,090
                    
                    
                    
                    24.4
                    %Operating
      expenses:Selling,
      general and administrative expenses
                    
                    
                    12,797,730
                    
                    
                    
                    12,695,509
                    
                    
                    
                    0.8
                    %Goodwill
      and intangible asset impairment charges
                    
                    
                    -
                    
                    
                    
                    43,999
                    
                    
                    
                    -100.0
                    %Operating
      profit
                    
                    
                    3,094,542
                    
                    
                    
                    36,582
                    
                    
                    
                    8359.3
                    %Interest
      income
                    
                    
                    91,558
                    
                    
                    
                    73,493
                    
                    
                    
                    24.6
                    %Other
      income (expense)
                    
                    
                    17,266
                    
                    
                    
                    (191
                    )
                    
                    
                    -9152.6
                    %Interest
      expense
                    
                    
                    (271,290
                    )
                    
                    
                    (349,907
                    )
                    
                    
                    -22.5
                    %Income
      (loss) before tax expense
                    
                    
                    2,932,076
                    
                    
                    
                    (240,023
                    )
                    
                    
                    1321.6
                    %Provision
      for income taxes
                    
                    
                    1,374,320
                    
                    
                    
                    63,281
                    
                    
                    
                    2071.8
                    %Net
      income (loss)
                    
                    $
                    1,557,756
                    
                    
                    $
                    (303,304
                    )
                    
                    
                    613.6
                    %





Revenue -Revenue for the year
ended December 31, 2008 was $62,357,466 representing an increase of $4,505,250
or 7.8%, as compared to revenue of $57,852,216 for the year ended December 31,
2007.  Arizona operations continued to show significant revenue
improvement as revenues from its top three customers showed year over year
increases.  Improved revenues from our Colorado and Virginia
operations also contributed to the higher revenues for the year ended December
31, 2008, compared to the same period in the prior year.  These
increases were partially offset by a decline in revenue from our California
Banking operations, as well as from our Airorlite subsidiary.  While
up significantly from preceding years, New Jersey / New York’s revenues were
flat in 2008 compared to 2007.  A significant portion of the revenues
in both years for New Jersey / New York resulted from work completed for several
large public agencies in the New York Metropolitan area.  In February
2008, the Company entered into a subcontractor agreement with Global Security
& Engineering Solutions, a division of L-3 Services,
Inc.      (“L-3”) pursuant to which L-3 would
issue task orders under its Indefinite Quantity Firm Fixed Price Contract with
the U.S. Marine Corp Systems Command to deliver a Tactical Video Capture System
(“TVCS”).  TVCS is used for real-time visualization and situational
awareness while Marine units are conducting military operations in urban terrain
training exercises.  The performance period of the contract is three
years.  In 2008, the revenue recognized under this contract
represented $2.6 million and there were outstanding task orders included in our
backlog of approximately $5 million at December 31, 2008.


20




Cost of Revenue - Cost of
revenue for the year ended December 31, 2008 was $46,465,194 as compared to
$45,076,126 for the year ended December 31, 2007. The gross margin as a percent
of revenues for the year ended December 31, 2008 was 25.5% as compared to 22.1%
for the year ended December 31, 2007, mainly resulting from stronger margins in
our New Jersey / New York and Virginia operations.  In the earlier
months of 2007, New Jersey / New York experienced a margin decline as the result
of cost overruns on a number of installations, which contributed to the
improvement for the year ended December 31, 2008 versus 2007.  In
addition, during 2008 New Jersey / New York experienced higher margins on
several of the large public agency jobs in the New York Metropolitan area due to
efficient project management, which also contributed to this year-over-year
comparison.  In addition to the gross margin as a percent of revenue
improvement, the significantly higher revenues from our New Jersey / New York
and Arizona operations contributed to the increase in gross profit dollars for
the year ended December 31, 2008.  Gross profit in 2008 also benefited
from the commencement of work on the L-3 Contract discussed
above.  Partially offsetting the improved margins were significant
losses incurred in the first quarter of 2008 in our Airorlite Subsidiary in
order to complete work on certain open contracts.




Also
contributing to the improved margins in the first year of 2008 was an overall
shift to higher margin jobs, and improved labor utilization.




Selling, General and Administrative
Expenses -Selling, general and administrative expenses were $12,797,730
for the year ended December 31, 2008 as compared to $12,695,509 for the year
ended December 31, 2007. This increase of 0.8% or $102,221 was mainly
attributable to higher vehicle expense due to increased fuel costs during 2008,
higher stock option expense and a net increase in bad debt expense for the
current year period, partially offset by improved labor utilization, lower
professional fees, and lower depreciation and amortization of intangibles
expense.




Interest Income –Interest
income for the year ended December 31, 2008 was $91,558 as compared to $73,493
for the year ended December 31, 2007.  This increase was attributable
to higher cash balances during the twelve month period ended December 31, 2008
versus the same period in the prior year.




Interest Expense - Interest
expense for the year ended December 31, 2008 was $271,290 as compared to
$349,907 for the year ended December 31, 2007.  Although the average
outstanding debt balance was only $171,391 higher in the twelve month period
ended December 31, 2008 versus that in the year ended December 31, 2007, the
average prime rate of interest paid was 301 basis points lower in the 2008
period than it was in 2007.




Tax Expense –The effective
tax rate for the year ended December 31, 2008 was 46.9%, based upon income
before tax expense of $2,932,076.  The tax rate is a result of the
Company operating in multiple states and jurisdictions with higher tax rates,
combined with the impact of being unable to claim a state tax benefit on the
Airorlite subsidiary losses.  Tax expense for the year ended December
31, 2007 was $63,281.  This provision is driven primarily by
profitability in states with higher income tax rates.


21




Net Income (Loss) - As a
result of the above noted factors our net income was $1,557,756 for the year
ended December 31, 2008 compared to a net loss of $303,304 for the year ended
December 31, 2007. This resulted in diluted earnings per share of $0.26 on
weighted average diluted common shares outstanding of 5,988,782 for the year
ended December 31, 2008, as compared to diluted loss per share of $0.05 on
weighted average diluted common shares outstanding of 5,768,864 for the year
ended December 31, 2007.




Comparison
of the year ended December 31, 2007 to the year ended December 31,
2006





Analysis
of consolidated statement of operations





For
      the years ended December 31,2007
                                          
                                          
                                          2006
                                          
                                          
                                          %
      changeRevenue
                                          
                                          $
                                          57,852,216
                                          
                                          
                                          $
                                          42,132,852
                                          
                                          
                                          
                                          37.3
                                          %Cost
      of revenue
                                          
                                          
                                          45,076,126
                                          
                                          
                                          
                                          30,818,832
                                          
                                          
                                          
                                          46.3
                                          %Gross
      profit
                                          
                                          
                                          12,776,090
                                          
                                          
                                          
                                          11,314,020
                                          
                                          
                                          
                                          12.9
                                          %Operating
      expenses:Selling,
      general & administrative expenses
                                          
                                          
                                          12,695,509
                                          
                                          
                                          
                                          12,720,381
                                          
                                          
                                          
                                          -0.2
                                          %Goodwill
      & intangible asset impairment charges
                                          
                                          
                                          43,999
                                          
                                          
                                          
                                          1,191,000
                                          
                                          
                                          
                                          -96.3
                                          %Operating
      profit (loss)
                                          
                                          
                                          36,582
                                          
                                          
                                          
                                          (2,597,361
                                          )
                                          
                                          
                                          -101.4
                                          %Interest
      income
                                          
                                          
                                          73,493
                                          
                                          
                                          
                                          19,515
                                          
                                          
                                          
                                          276.6
                                          %Other
      expense
                                          
                                          
                                          (191
                                          )
                                          
                                          
                                          (674
                                          )
                                          
                                          
                                          -71.7
                                          %Interest
      expense
                                          
                                          
                                          (349,907
                                          )
                                          
                                          
                                          (103,923
                                          )
                                          
                                          
                                          236.7
                                          %Loss
      before tax expense
                                          
                                          
                                          (240,023
                                          )
                                          
                                          
                                          (2,682,443
                                          )
                                          
                                          
                                          -91.1
                                          %Tax
      expense (benefit)
                                          
                                          
                                          63,281
                                          
                                          
                                          
                                          (422,305
                                          )
                                          
                                          
                                          -115.0
                                          %Net
      loss
                                          
                                          $
                                          (303,304
                                          )
                                          
                                          $
                                          (2,260,138
                                          )
                                          
                                          
                                          86.6
                                          %




Revenue-Revenue for the year ended
December 31, 2007 was $57,852,216 as compared to $42,132,852 for the year ended
December 31, 2006.  This represents an increase of 37.3% over the
prior year.  CIS Security Systems Corp. (“CIS”) (Virginia and Maryland
operations) acquired in October 2006 accounted for $3,088,238 of the increase in
revenues.   New Jersey’s revenues increased significantly as a
result of the contracts awarded by large public agencies in the New York
Metropolitan area at the end of 2006 and early 2007.  For the year
ended December 31, 2007, the Company experienced continued revenue improvement
from our Arizona Division, as well as improvements in our Colorado, Texas and
California Divisions.  Revenues from governmental agencies represented
39.8% and 22.6% of total revenues, for the years ended December 31, 2007 and
2006, respectively.




Cost of Revenue- Cost of revenue for the
year ended December 31, 2007 was $45,076,126 as compared to $30,818,832 for the
year ended December 31, 2006. The gross profit margin for the year ended
December 31, 2007 was 22.1% as compared to 26.9% for the year ended December 31,
2006.  The decline in the gross profit margin was driven principally
from the California and New Jersey operations.  California’s margin
decline was the result of cost overruns on a number of projects that were quoted
late in 2006 and early 2007.


22




The
decline in New Jersey in the first quarter of 2007 was the result of cost
overruns on a number of installations.  In addition, as discussed
above in “Revenue,” several large projects were booked in New Jersey at the end
of 2006 and early in 2007.  These projects carry gross profit margins
that are below the Company’s historical average.   Therefore,
while gross margin percentages declined in New Jersey for the year ended
December 31, 2007 compared to the same period in the prior year, because of the
significant increase in revenue from these larger projects, gross profit dollars
actually increased by 35.6% year over year.




Selling, General and Administrative
Expenses-Selling, general and administrative expense was $12,695,509 for the year
ended December 31, 2007, as compared to $12,720,381 for the year ended December
31, 2006. The increased costs associated with the CIS acquisition in our 2006
fourth quarter, as well as higher corporate costs, due mainly to organizational
changes, and costs incurred in addressing the internal control weaknesses
identified in Item 9A of the Annual Report on Form 10-K for the fiscal year
ended December 31, 2006, as well as costs incurred in preparation for Sarbanes
Oxley implementation, were generallyoffset by lower bad debt
expense and improved labor utilization.




Goodwill and Intangible Asset
Impairment Charges–Based upon our goodwill evaluation under the requirements of SFAS 142,
the Company took a charge to operations of $1,191,000 (or $.21 per diluted
share) associated with goodwill impairment associated with our California
banking vertical market for the year ended December 31, 2006.  For the
year ended December 31, 2007 the Company recorded a $43,999 impairment charge
for the write-down of a trade name.




Interest Income–Interest income for the
year ended December 31, 2007 was $73,493, as compared to $19,515 for the year
ended December 31, 2006.




Interest Expense- Interest expense for the
year ended December 31, 2007 was $349,907, as compared to $103,923 for the year
ended December 31, 2006.  Average outstanding debt balance was
considerably higher in the twelve month period ended December 31, 2007 versus
for the year ended December 31, 2006, accounting for the higher interest expense
in 2007.




Tax Expense–Tax expense for the
year ended December 31, 2007 was $63,281.  This provision is driven
primarily by profitability in states with higher income tax
rates.  For the year ended December 31, 2006, principally asa result of the loss
before tax incurred by the Company, there was an overall tax benefit of
$422,305.  This benefit was partially offset by state income taxes for
those jurisdictions that were profitable during the period.  The
write-off of the goodwill discussed above is a permanent difference under FASB
109, “Accounting for Income Taxes”.  Accordingly, there was no tax
benefit taken for this write-off.




Net Loss - As a result of the
above noted factors our net loss was $303,304 for the year ended December 31,
2007 as compared to a net loss of $2,260,138 for the year ended December 31,
2006. This resulted in diluted loss per share of $0.05 on weighted average
common shares outstanding of 5,768,864 for the year ended December 31, 2007, as
compared to diluted loss per share of $0.39 on weighted average common shares
outstanding of 5,749,964 for the year ended December 31, 2006.





Liquidity and Capital
Resources–As of
December 31, 2008, we had cash and cash equivalents of $27,704. Our minimal cash
balance at December 31, 2008 is due to minimizing the cash balances in our
operating accounts by managing it with our revolving credit
facility.




Our
net current assets were $13,944,121 at December 31, 2008 versus $6,971,732 at
December 31, 2007. Total debt at December 31, 2008 was $5,485,404 compared to
the December 31, 2007 balance of $4,736,384.


23




Cash used
in operating activities was $3,187,967 during the year ended December 31,
2008.  The most significant use of cash resulted from a net increase
in accounts receivable of $5,204,110 and cost in excess of billings and
estimated profits of $2,317,062 and a decrease in accounts payable of
$1,230,408.  This was partially offset by an increase in accrued
expenses of $1,766,022 and an increase in billings in excess of costs and
estimated profits of $429,749.




Cash used
in investing activities was $631,994.  The most significant
expenditures were for vehicle purchases and earn-out payments related to the CIS
acquisition.




Cash from
financing activities provided $570,215, representing $700,001 in net proceeds
from the revolving bank line, plus proceeds from stock option exercises of
$119,258 and a net recovery from stockholder of $59,443, partially offset by
term loan and capital lease payments,.




Borrowings
under the revolving credit facility at December 31, 2008 were
$4,335,898.   The Company is required to maintain certain
financial and reporting covenants and restrictions on dividend payments under
the terms of the Loan Agreement with TB Bank, N.A. (See Note 8 to the
Consolidated Financial Statements included in this Annual Report on Form
10-K).




Backlog
and Bookings




Booked
orders increased 5.1% to $59,491,542 for the year ended December 31, 2008 as
compared to $56,616,979 for the year ended December 31, 2007. The Company’s
backlog as of December 31, 2008 was $23,701,243 and was $26,567,167 at December
31, 2007.  The primary factor in the decline in the backlog is
attributable to the work completed on several large public agency jobs in New
Jersey / New York in 2008, partially offset by the bookings related to the L-3
Contract. Booked orders increased to $56,616,979 in the year ended December 31,
2007 as compared to $53,822,722 in the corresponding period of
2006.




DIVIDENDS




We have
not declared cash dividends on our common equity. The payment of dividends is
prohibited under the existing credit agreement with TD Bank, N. A.  We
may, in the future, declare dividends under certain circumstances.




SEASONALITY




Revenues
generated by our services have typically been seasonal in nature and there could
be periods of fluctuations in revenue volume due to the timing of project
installations or factors that are beyond the Company’s control, such as weather
and construction delays.




INFLATION




Our
revenues generally have kept pace with inflation.




OFF
BALANCE SHEET ARRANGEMENTS




We do not
have any financial partnerships with unconsolidated entities, such as entities
often referred to as structured finance, special purpose entities or variable
interest entities which are often established for the purpose of facilitating
off-balance sheet arrangements or other contractually narrow or limited
purposes. Accordingly, we are not exposed to any financing, liquidity, market or
credit risk that could arise if we had such relationships.


24




AGGREGATE
CONTRACTUAL OBLIGATIONS




As of
December 31, 2008, the Company’s contractual obligations, including payments due
by period, are as follows:





Payment
      due by period2009
                        
                        
                        2010
                        
                        
                        2011
                        
                        
                        2012
                        
                        
                        2013
                        
                        
                        Thereafter
                        
                        
                        TotalLong
      -Term Debt Obligations
                        
                        $
                        -
                        
                        
                        $
                        4,335,898
                        
                        
                        $
                        -
                        
                        
                        $
                        -
                        
                        
                        $
                        -
                        
                        
                        $
                        -
                        
                        
                        $
                        4,335,898Interest
      Obligation on Long-term debt
                        
                        
                        140,917
                        
                        
                        
                        140,917
                        
                        
                        
                        82,201
                        
                        
                        
                        -
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        364,035Capital
      Lease Obligations
                        
                        
                        358,299
                        
                        
                        
                        297,024
                        
                        
                        
                        197,928
                        
                        
                        
                        86,083
                        
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        939,334Short-term
      debt
                        
                        
                        372,403
                        
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        372,403Total
                        
                        $
                        871,619
                        
                        
                        $
                        4,773,839
                        
                        
                        $
                        280,129
                        
                        
                        $
                        86,083
                        
                        
                        $
                        -
                        
                        
                        $
                        -
                        
                        
                        $
                        6,011,670




Item
7A.  Quantitative and Qualitative Disclosures about Market
Risk




We have
one revolving loan for which the interest rate on outstanding borrowings is
variable and is based upon the prime rate of interest. At December 31, 2008 and
2007, there was $4,335,898 and $3,635,897, respectively, outstanding under this
revolving credit facility.




Item
8.  Financial Statements and Supplementary Data




Refer to
pages F-1 through F-35.




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





On
November 5, 2007, the Company notified Demetrius & Company, L.L.C. of its
decision to dismiss Demetrius & Company, L.L.C. as the Company’s independent
auditors.





Concurrently,
the Audit Committee and the Board of Directors approved the engagement of Amper,
Politziner and Mattia, LLP as the Company's independent auditors, effective upon
notification to Demetrius & Company, L.L.C. of dismissal, and execution of
an engagement letter. Amper, Politziner and Mattia, LLP served as the Company's
independent auditors beginning with the quarter ended September 30,
2007.





During
the period beginning January 1, 2005 through November 5, 2007 (the date Amper,
Politziner and Mattia, LLP was appointed), neither the Company nor anyone acting
on the Company’s behalf consulted with Amper, Politziner and Mattia, LLP.
regarding (1) the application of accounting principles to a specified
transaction or the type of audit opinion that might be rendered on the Company's
financial statements or (2) any of the matters or events set forth in Item
304(a)(2)(ii) of Regulation S-K.


25





The
reports of Demetrius & Company, L.L.C. on the Company’s financial statements
for the  2006 fiscal year did not contain an adverse opinion or a
disclaimer of opinion and were not qualified or modified as to uncertainty,
audit scope, or accounting principles. During the Company’s two most recent
fiscal years and the period from the end of the most fiscal year and through
November 5, 2007, the date of appointment of  Amper, Politziner &
Mattia, LLP, the period January 1, 2007 through November 7, 2007, there were no
disagreements with Demetrius & Company, L.L.C. on any matters of accounting
principles or practices, financial statement disclosure, or auditing scope and
procedures which, if not resolved to the satisfaction of Demetrius &
Company, L.L.C., would have caused Demetrius & Company, L.L.C. to make
reference to the matter in its report.




During
the year ended December 31, 2008, there were no disagreements with the Company's
principal independent accountant on accounting or financial
disclosure.




ITEM
9A (T). CONTROLS AND PROCEDURES




(a)
EFFECTIVENESS OF DISCLOSURE CONTROLS AND PROCEDURES




The
Company’s management, with the participation of our Chief Executive Officer,
Chief Operating Officer and Chief Financial Officer, evaluated the effectiveness
of our disclosure controls and procedures as of December 31, 2008. The term
“disclosure controls and procedures,” as defined in Rules 13(a)-15(e) and
15(d)-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange
Act”), means controls and other procedures of a company that are designed to
ensure that information required to be disclosed by the company in the reports
that it files or submits under the Exchange Act is recorded, processed,
summarized and reported, within the time periods specified in the SEC’s rules
and forms. Disclosure controls and procedures include, without limitation,
controls and procedures designed to ensure that information required to be
disclosed by a company in the reports that it files or submits under the
Exchange Act is accumulated and communicated to the company’s management,
including its principal executive and principal financial officers, as
appropriate to allow timely decisions regarding required disclosure. Management
recognizes that any controls and procedures, no matter how well designed and
operated, can provide only reasonable assurance of achieving their objectives
and management necessarily applies its judgment in evaluating the cost-benefit
relationship of possible controls and procedures. Based on the evaluation of our
disclosure controls and procedures as of December 31, 2008, our Chief Executive
Officer and Chief Financial Officer concluded that, as of such date, our
disclosure controls and procedures were effective.




(b)
MANAGEMENT’S ANNUAL REPORT ON INTERNAL CONTROL OVER FINANCIAL
REPORTING




The
management of the Company is responsible for establishing and maintaining
adequate internal control over financial reporting. Internal control over
financial reporting is defined in Rules 13a-15(f) and 15d-15(f) promulgated
under the Exchange Act as a process designed by, or under the supervision of,
the company’s principal executive and principal financial officers and effected
by the company’s board of directors, management and other personnel, to provide
reasonable assurance regarding the reliability of financial reporting and the
preparation of financial statements for external purposes in accordance with
generally accepted accounting principles and includes those policies and
procedures that:


26





·
            Pertain
      to the maintenance of records that, in reasonable detail, accurately and
      fairly reflect the transactions and dispositions of the assets of the
      company;




·
            Provide
      reasonable assurance that transactions are recorded as necessary to permit
      preparation of financial statements in accordance with generally accepted
      accounting principles, and that receipts and expenditures of the company
      are being made only in accordance with authorizations of management and
      directors of the Company; and




·
            Provide
      reasonable assurance regarding prevention or timely detection of
      unauthorized acquisition, use or disposition of the company’s assets that
      could have a material effect on the financial
  statements.




Because
of its inherent limitations, internal control over financial reporting may not
prevent or detect misstatements. Projections of any evaluation of effectiveness
to future periods are subject to the risk that controls may become inadequate
because of changes in conditions, or that the degree of compliance with the
policies or procedures may deteriorate.




Our
management assessed the effectiveness of our internal control over financial
reporting as of December 31, 2008. In making this assessment, management used
the criteria set forth by the Committee of Sponsoring Organizations of the
Treadway Commission (COSO) in Internal Control-Integrated
Framework.  Based on our assessment, management believes that,
as of December 31, 2008, the Company’s internal controls over financial
reporting is effective based on those criteria.





This
annual report does not include an attestation report of the Company's registered
public accounting firm regarding internal control over financial
reporting.  Management's report was not subject to attestation by the
Company's registered public accounting firm pursuant to temporary rules of the
Securities and Exchange Commission that permit the Company to provide only
management's report in this annual report.





Changes
in Internal Control over Financial Reporting





There
were no significant changes in our internal control over financial reporting (as
such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act)
identified in management's evaluation during the fourth quarter of fiscal year
2008 that have materially affected or are reasonably likely to materially affect
our internal control over financial reporting.




Item
9B.   Other Information




There were no events requiring
disclosure that had not been made under Form 8-K in the fourth quarter of our
fiscal year.


27


PART
III




Item 10.  Directors, Executive Officers and
Corporate




Identification
of Directors (ages are as of March 10, 2008)




Name
            
            Age
            
            Position(s) with the
Company
            
            Director
              SinceJames
      E. Henry
            
            54
            
            Chairman,
      Chief Executive Officer, Treasurer and Director
            
            1998Brian
      Reach.
            
            54
            
            President,
      Chief Operating Officer, Secretary and Director
            
            2004Robert
      L. De Lia Sr
            
            60
            
            Director
            
            2004James
      W. Power
            
            78
            
            Director
            
            2005Joseph
      P. Ritorto
            
            76
            
            Director
            
            2002Richard
      D. Rockwell
            
            54
            
            Director
            
            2007David
      Sands
            
            51
            
            Director
            
            2005




Identification
of Executive Officers (ages are as of March 10, 2008)




Name
              
              Age
              
              Position(s) with the
Company
              
              Officer
                SinceJames
      E. Henry
              
              54
              
              Chairman,
      Chief Executive Officer, Treasurer and Director
              
              1998Brian
      Reach
              
              54
              
              President,
      Chief Operating Officer, Secretary and Director
              
              2004John
      P. Hopkins
              
              48
              
              Chief
      Financial Officer
              
              2006Brian
      J. Smith
              
              53
              
              Corporate
      Controller
              
              2007Christopher
      Peckham
              
              43
              
              Chief
      Information Officer / Chief Security Officer
              
              2007




James E.
Henry co-founded the Company’s predecessor company in 1989 and served as
President and Chief Executive Officer until December 2001 when he was elected
Chairman of the Board. Mr. Henry continues to serve as Chief Executive
Officer and is also the Company’s Treasurer. Mr. Henry graduated from the
University of New Hampshire with a Bachelor of Science degree in electrical
engineering. In addition to his other responsibilities, Mr. Henry has
continued to design, install, integrate and market security and communications
systems as well as manage the Company’s research and development.




Brian
Reach, in addition to his prior duties, was named Chief Operating Officer in
August 2006 and President in March 2007.  Mr. Reach has been a member
of the Company’s Board of Directors since February 2004 and has served as the
Company’s Vice-Chairman since June 2004 and as its Secretary since November
2004. From September 1999 until April 2002, Mr. Reach was the Chief
Financial Officer of Globix Corporation, a provider of application, media and
infrastructure management services. Globix’s common stock is traded on the OTC
Bulletin Board. From May 1997 to August 1999, Mr. Reach was the Chief
Financial Officer of IPC Communications, a provider of integrated
telecommunications equipment and services to the financial industry. During his
tenure at IPC, Mr. Reach successfully guided IPC through its leveraged
recapitalization and financially restructured IPC enabling it to invest in
strategic acquisitions and next generation technologies. Prior to IPC,
Mr. Reach was the Chief Financial Officer of Celadon Group, Inc. and Cantel
Industries, Inc. Mr. Reach became a certified public accountant in 1980 and
received his Bachelor of Science degree in accounting from the University of
Scranton in 1977.


28




Robert L.
De Lia, Sr. has been a member of our Board since May 2004. Currently, Mr. De Lia
is vice president of TJ’s Motorsport, a privately held company dedicated to
supplying quality motor sport products. From 2002 to 2003, Mr. De Lia was
the President and Chief Executive Officer of Airorlite Communications, Inc., a
company that specializes in designing, manufacturing and maintaining wireless
communications equipment used to enhance and extend emergency radio frequency
services and cellular communication for both fixed and mobile applications. In
April 2004, a wholly-owned subsidiary of the Company purchased all of the issued
and outstanding shares of stock of Airorlite Communications, Inc. From 1987 to
1999, Mr. De Lia was the President and Chief Executive Officer of Fiber
Options, Inc. Mr. De Lia graduated from the New York Institute of
Technology in 1969.




James W.
Power has been a member of our Board since December 2005. Mr. Chairman of MDI,
Inc, a Nasdaq listed provider of integrated access control and physical security
products for government and commercial organizations; director of RAE Systems,
Inc., a manufacturer of equipment used to detect weapons of mass destruction,
hazardous materials and toxic chemicals; and the principal partner in J.W. Power
& Associates. Mr. Power previously served as Chairman of the Board of
InfoGraphic Systems Corp.; President and Chief Executive Officer of Martec\SAIC;
President and Chief Executive Officer of Pinkerton Control Systems and has held
senior executive positions with Cardkey Systems, Inc., Nitrol Corporation and
TRW Data Systems. Previously, he has served as a director of National
Semiconductor, ICS Corporation, and Citicorp Custom Credit and Citicorp Credit
Services.




Joseph P.
Ritorto has been a member of our Board since January 2002. Mr. Ritorto is the
co-founder of First Aviation Services, Inc., which is located in Teterboro
Airport, Teterboro, New Jersey and provides a variety of aviation support
services. Mr. Ritorto has been an officer, in various capacities, of First
Aviation Services since 1986. Mr. Ritorto sold First Aviation Services to a
group led by Goldman Sachs in May 2008.  From 1991, until he retired
in May 2001, Mr. Ritorto served as the Senior Executive Vice President and
Chief Operating Officer of Silverstein Properties, Inc. In this capacity,
Mr. Ritorto’s responsibilities included overseeing operations and directing
the lease administration of Silverstein owned and managed
properties.




Richard
D. Rockwell has served as a director of the Company since November 2007. In
November 2008, Mr. Rockwell was named Vice Chairman of the Company's Board of
Directors and joined the Company's Executive Committee as Chairman. Mr. Rockwell
has been Owner and Chairman of Professional Security Technologies LLC, a full
service security systems integrator since 1996.  Mr. Rockwell has been
Owner and President of Main Security Surveillance, Inc. since
2005.  From 1982 to 2003, Mr. Rockwell was Founder, Owner and Chief
Executive Officer of Professional Security Bureau, Ltd. (“PSB”), a security
guard services company.  In 2003 PSB, with annual revenues in excess
of $100 million, was divested to Allied Security.  From 1997 through
2003, Mr. Rockwell was co-founder and Chairman of TransNational Security Group,
LLC (“TSG”).  TSG afforded the member companies with opportunities for
national sales and marketing, national contracting, and combined purchasing
power.  From 1995 to 2005, Mr. Rockwell was founder and owner of
PeopleVision, a full service advertising and display manufacturing
company.  From 1981 to 1982, Mr. Rockwell was vice president, legal
affairs of Metropolitan Maintenance Company, a publicly-traded company listed on
the Boston stock exchange.  Mr. Rockwell received a Bachelor of Arts
from Ithaca College and a Juris Doctor from Western New England College of
Law.


29




David
Sands has been a member of our Board since 2005.  Mr. Sands is a
certified public accountant and a partner of Buchbinder Tunick & Company LLP
where he is the head of the tax department. Mr. Sands is a member of the
American Institute of Certified Public Accountants and the New York State
Society of CPAs. Mr. Sands has also lectured at the New York University
Summer Continuing Education and the Foundation for Accounting Education
Programs. Mr. Sands received a Bachelor of Science from SUNY at Buffalo and
a Master of Science in Taxation from Pace University.




John P.
Hopkins was appointed Chief Financial Officer in August 2006. Prior to joining
the Company, Mr. Hopkins was Chief Financial Officer for Measurement Specialties
from July 2002 to August 2006, was Vice President, Finance from April 2001 to
July 2002, and was Vice President and Controller from January 1999 to March,
2001, with Cambrex Corporation, a provider of scientific products and services
to the life sciences industry. From 1988 to 1998, he held various senior
financial positions with ARCO Chemical Company, a manufacturer and marketer of
specialty chemicals and chemical intermediates. Mr. Hopkins is a Certified
Public Accountant and was an Audit Manager for Coopers & Lybrand prior to
joining ARCO Chemical. Mr. Hopkins holds a B.S. in Accounting from West Chester
University, and an M.B.A. from Villanova University.




Brian J.
Smith was appointed Corporate Controller in April 2007.  Prior to
joining the Company, Mr. Smith was VP-General Manager NetVersant of New York, a
provider of voice and data system infrastructure from 2002.  From 1991
to 2002 Mr. Smith held various senior financial positions with Insilco
Technologies, a manufacturer and distributor of electronic
components.  Mr. Smith is a Certified Public Accountant and began his
career as an auditor for KPMG Peat Marwick.  Mr. Smith holds a B.S. in
Accounting from Fordham University.




Christopher
Peckham was appointed Chief Information Officer / Chief Security Officer in
September 2007.  Prior to joining the Company, Mr. Peckham was
Director of Operations with Sungard Higher Education from 2003.  From
1999 to 2003, Mr. Peckham served in several VP positions at Globix Corporation
in the areas of Network and Systems Engineering, Operations, and Information
Technology.  Prior to that, he held positions in networking and
systems at Icon CMT, PFMC, and NJIT.  Mr. Peckham received the B.S.,
M.S., and Ph.D. degrees in electrical engineering from the New Jersey Institute
of Technology and a MBA from Rutgers University.




(c)
Compliance with Section 16(a) of the Exchange Act




Section
16(a) of the Exchange Act, requires our directors and officers, and persons who
own more than 10% of our Common Stock, to file with the Securities and Exchange
Commission initial reports of beneficial ownership and reports of changes in
beneficial ownership of our Common Stock and other equity securities. Our
officers, directors and greater than 10% beneficial owners are required by SEC
regulation to furnish us with copies of all Section 16(a) forms they
file.


30




To our
knowledge, for the year ended December 31, 2008, based solely on a review of the
copies of such reports furnished to the Company and representations by these
individuals that no other reports were required during the year ended December
31, 2008, all Section 16(a) filing requirements applicable to our directors,
officers and greater than 10% beneficial owners have been timely
filed.




(d) Code
of Conduct and Ethics




We have a
Code of Conduct that applies to all of our directors, officers and employees,
including our principal executive officer, principal financial officer and
principal accounting officer and a Code of Ethics that applies to our senior
financial officers. You can find our Code of Conduct and Code of Ethics on our
website: www.hbe-inc.com.   We will post there any amendments to
these Codes, as well as any waivers that are required to be disclosed by the
rules of either the Securities and Exchange Commission or
NASDAQ.


31




Item
11.     Executive Compensation




Summary
Compensation Table




The
following table sets forth summary information concerning the annual
compensation for the years ended December 31, 2008 and 2007 for our principal
executive officer (“PEO”), principal financial officer (“PFO”) and our most
highly compensated executive officers other than our PEO and our PFO for the
year ended December 31, 2008:




Salary
                                                    
                                                    
                                                    Bonus
                                                    
                                                    
                                                    Option
                                                      Awards
                                                    
                                                    
                                                    All
      Other
                                                      compensation
                                                    
                                                    
                                                    TotalName
      and Principal Position
                                                    
                                                    Year
                                                    
                                                    ($)
                                                    
                                                    
                                                    ($)
                                                    
                                                    
                                                    ($)(1)
                                                    
                                                    
                                                    ($)
      (2)
                                                    
                                                    
                                                    ($)James
      E Henry, Chairman, Chief Executive Officer, Treasurer and
      Director
                                                    
                                                    2008
                                                    
                                                    
                                                    180,131
                                                    
                                                    
                                                    
                                                    36,050
                                                    
                                                    
                                                    
                                                    -
                                                    
                                                    
                                                    
                                                    -
                                                    
                                                    
                                                    
                                                    216,1812007
                                                    
                                                    
                                                    174,148
                                                    
                                                    
                                                    
                                                    -
                                                    
                                                    
                                                    
                                                    -
                                                    
                                                    
                                                    
                                                    -
                                                    
                                                    
                                                    
                                                    174,1482006
                                                    
                                                    
                                                    130,680
                                                    
                                                    
                                                    
                                                    -
                                                    
                                                    
                                                    
                                                    -
                                                    
                                                    
                                                    
                                                    -
                                                    
                                                    
                                                    
                                                    130,680Brian
      Reach, President, Chief Operating Officer, Secretary and Director
      (3)
                                                    
                                                    2008
                                                    
                                                    
                                                    180,131
                                                    
                                                    
                                                    
                                                    36,050
                                                    
                                                    
                                                    
                                                    -
                                                    
                                                    
                                                    
                                                    6,300
                                                    
                                                    
                                                    
                                                    222,4812007
                                                    
                                                    
                                                    173,019
                                                    
                                                    
                                                    
                                                    -
                                                    
                                                    
                                                    
                                                    10,626
                                                    
                                                    
                                                    
                                                    6,281
                                                    
                                                    
                                                    
                                                    189,9262006
                                                    
                                                    
                                                    72,000
                                                    
                                                    
                                                    
                                                    -
                                                    
                                                    
                                                    
                                                    42,363
                                                    
                                                    
                                                    
                                                    6,051
                                                    
                                                    
                                                    
                                                    120,414John
      P. Hopkins, Chief Financial Officer (4)
                                                    
                                                    2008
                                                    
                                                    
                                                    180,131
                                                    
                                                    
                                                    
                                                    33,050
                                                    
                                                    
                                                    
                                                    -
                                                    
                                                    
                                                    
                                                    6,000
                                                    
                                                    
                                                    
                                                    219,1812007
                                                    
                                                    
                                                    175,000
                                                    
                                                    
                                                    
                                                    -
                                                    
                                                    
                                                    
                                                    31,879
                                                    
                                                    
                                                    
                                                    6,500
                                                    
                                                    
                                                    
                                                    213,3792006
                                                    
                                                    
                                                    69,000
                                                    
                                                    
                                                    
                                                    -
                                                    
                                                    
                                                    
                                                    13,283
                                                    
                                                    
                                                    
                                                    2,000
                                                    
                                                    
                                                    
                                                    84,283Brian
      J. Smith (5)
                                                    
                                                    2008
                                                    
                                                    
                                                    147,971
                                                    
                                                    
                                                    
                                                    17,803
                                                    
                                                    
                                                    
                                                    -
                                                    
                                                    
                                                    
                                                    6,000
                                                    
                                                    
                                                    
                                                    171,7742007
                                                    
                                                    
                                                    100,223
                                                    
                                                    
                                                    
                                                    -
                                                    
                                                    
                                                    
                                                    12,035
                                                    
                                                    
                                                    
                                                    4,250
                                                    
                                                    
                                                    
                                                    116,508Christopher
      Peckham (6)
                                                    
                                                    2008
                                                    
                                                    
                                                    125,926
                                                    
                                                    
                                                    
                                                    25,189
                                                    
                                                    
                                                    
                                                    -
                                                    
                                                    
                                                    
                                                    4,800
                                                    
                                                    
                                                    
                                                    155,9152007
                                                    
                                                    
                                                    36,058
                                                    
                                                    
                                                    
                                                    -
                                                    
                                                    
                                                    
                                                    5,407
                                                    
                                                    
                                                    
                                                    1,400
                                                    
                                                    
                                                    
                                                    42,865





(1)  Represents
the dollar amount recognized for financial statement reporting purposes with
respect to the years ended December 31, 2007 and 2006 for the fair value of the
option granted to the named executive officer.  The fair value was
estimated in accordance with FASB 123R.  For a more detailed
discussion on the valuations made and assumptions used to calculate the fair
value of our options refer to Note 10 of our Annual Report on Form 10-K for the
year ended December 31, 2008.





(2)  For
Mssrs. Hopkins, Smith and Peckham represents auto allowances.  For Mr.
Reach represents medical premium reimbursement.





(3)  Effective
August 8, 2006, Mr. Reach assumed the position of Chief Operating
Officer.  Effective March 23, 2007, Mr. Reach assumed the additional
position of President.





(4)  Effective
August 8, 2006, Mr. Hopkins became the Chief Financial Officer.





(5)
Effective April 14, 2007 Mr. Smith became the Corporate
Controller.





(6)
Effective September 10, 2007 Mr. Peckham became the Chief Information Officer /
Chief Security Officer.




Grants
of Plan-Based Awards in 2008.





There
were no grants of stock options under our existing stock option plans issued by
us during 2008 to executive officers named in the Summary Compensation
Table.




32




Outstanding Equity Awards at December
31, 2008.





The
following table contains information concerning unexercised options held as of
December 31, 2008 by the executive officers named in the Summary Compensation
Table:




Option
      AwardsNumber
      of
                                                                                                                  Securities
                                                                                                                  Underlying
                                                                                                                  Options
                                                                                                                  Exercisable
                                                                                                                
                                                                                                                
                                                                                                                Number
      of
                                                                                                                  Securities
                                                                                                                  Underlying
                                                                                                                  Options
                                                                                                                  Unexercisable
                                                                                                                
                                                                                                                
                                                                                                                
                                                                                                                Equity
      Incentive Plan
                                                                                                                  Awards:
      Number of
                                                                                                                  Securities
      Underlying
                                                                                                                  Unexercised
      Unearned
                                                                                                                  Options
                                                                                                                
                                                                                                                
                                                                                                                Option
                                                                                                                  Exercise
                                                                                                                  Price
                                                                                                                
                                                                                                                Option
                                                                                                                  Expiration
                                                                                                                  DateName
                                                                                                                
                                                                                                                (#)
                                                                                                                
                                                                                                                
                                                                                                                (#)
                                                                                                                
                                                                                                                
                                                                                                                
                                                                                                                (#)
                                                                                                                
                                                                                                                
                                                                                                                ($)Brian
      Reach
                                                                                                                
                                                                                                                
                                                                                                                100,000
                                                                                                                (1)
                                                                                                                
                                                                                                                
                                                                                                                -
                                                                                                                
                                                                                                                
                                                                                                                
                                                                                                                
                                                                                                                -
                                                                                                                
                                                                                                                
                                                                                                                
                                                                                                                7.10
                                                                                                                
                                                                                                                5/31/2009Brian
      Reach
                                                                                                                
                                                                                                                
                                                                                                                20,000
                                                                                                                (2)
                                                                                                                
                                                                                                                
                                                                                                                30,000
                                                                                                                (2)
                                                                                                                
                                                                                                                
                                                                                                                
                                                                                                                -
                                                                                                                
                                                                                                                
                                                                                                                
                                                                                                                3.71
                                                                                                                
                                                                                                                8/8/2012John
      P. Hopkins
                                                                                                                
                                                                                                                
                                                                                                                60,000
                                                                                                                (3)
                                                                                                                
                                                                                                                
                                                                                                                90,000
                                                                                                                (3)
                                                                                                                
                                                                                                                
                                                                                                                
                                                                                                                -
                                                                                                                
                                                                                                                
                                                                                                                
                                                                                                                3.71
                                                                                                                
                                                                                                                8/8/2012Brian
      Smith
                                                                                                                
                                                                                                                
                                                                                                                8,000
                                                                                                                
                                                                                                                
                                                                                                                
                                                                                                                32,000
                                                                                                                (4)
                                                                                                                
                                                                                                                
                                                                                                                
                                                                                                                -
                                                                                                                
                                                                                                                
                                                                                                                
                                                                                                                4.26
                                                                                                                
                                                                                                                5/14/2013Brian
      Smith
                                                                                                                
                                                                                                                
                                                                                                                2,000
                                                                                                                
                                                                                                                
                                                                                                                
                                                                                                                8,000
                                                                                                                (5)
                                                                                                                
                                                                                                                
                                                                                                                
                                                                                                                -
                                                                                                                
                                                                                                                
                                                                                                                
                                                                                                                4.11
                                                                                                                
                                                                                                                11/8/2013Christopher
      Peckham
                                                                                                                
                                                                                                                
                                                                                                                10,000
                                                                                                                
                                                                                                                
                                                                                                                
                                                                                                                40,000
                                                                                                                (6)
                                                                                                                
                                                                                                                
                                                                                                                
                                                                                                                -
                                                                                                                
                                                                                                                
                                                                                                                
                                                                                                                4.65
                                                                                                                
                                                                                                                9/11/2013





(1)
Represents grant of 100,000 incentive stock options which vests equally in 25
monthly installments of 4,000, with the installment vesting on June 30,
2004.





(2)
Represents grant of 50,000 incentive stock options which vests in five equal
installments of 10,000 on August 8, 2007, 2008, 2009, 2010, and 2011,
respectively.





(3)
Represents grant of 150,000 incentive stock options which vests in five equal
installments of 30,000 on August 8, 2007, 2008, 2009, 2010, and 2011,
respectively.





(4)
Represents grant of 40,000 incentive stock options which vests in five equal
installments of 8,000 on April 13, 2008, 2009, 2010, 2011, and 2012,
respectively.





(5)
Represents grant of 10,000 incentive stock options which vests in five equal
installments of 2,000 on November 8, 2008, 2009, 2010, 2011, and 2012,
respectively.





(6)
Represents grant of 50,000 incentive stock options which vests in five equal
installments of 10,000 on September 11, 2008, 2009, 2010, 2011, and 2012,
respectively.




Directors
who are also our employees receive no additional compensation for attendance at
board meetings. Mr. Henry and Mr. Reach are the only members of the Board of
Directors who are also employees.  The Company’s non-employee
directors receive a quarterly fee of $1,250 and an annual stock option grant to
purchase 2,000 shares of the Company’s common stock at the closing share price
on the day of the grant and $1,000 for attendance at each Board or Committee
meeting. For the year ended December 31, 2008, all of our outside Directors,
that is, Directors who are not employees or full-time consultants of the
Company, each received compensation as follows:


33




Fees
      Earned or
                                            Paid
      in Cash
                                          
                                          Option
                                            Awards
                                          
                                          
                                          TotalName
                                          
                                          ($)(1)
                                          
                                          ($)(2)
                                          
                                          
                                          ($)Robert
      De Lia, Sr.
                                          
                                          
                                          7,750
                                          
                                          
                                          10,400
                                          (3)
                                          
                                          
                                          18,150James
      W. Power
                                          
                                          
                                          9,000
                                          
                                          
                                          10,400
                                          (4)
                                          
                                          
                                          19,400Joseph
      P. Ritorto
                                          
                                          
                                          9,000
                                          
                                          
                                          10,400
                                          (5)
                                          
                                          
                                          19,400Richard
      D. Rockwell
                                          
                                          
                                          10,000
                                          
                                          
                                          5,200
                                          (6)
                                          
                                          
                                          15,200David
      Sands
                                          
                                          
                                          10,000
                                          
                                          
                                          10,400
                                          (7)
                                          
                                          
                                          20,400




(1)  Outside
Directors each receive a cash retainer at a rate of $5,000 per annum and $1,000
for attendence at each meeting.  The Company reimburses Directors for
out-of-pocket expenses incurred travelling to Board of Director's
meetings.




(2)  Represents
the dollar amount recognized for financial statement reporting purposes with
respect to the year ended December 31, 2008 for the fair value of the option
granted to the named Director.  The fair value was estimated in
accordance with FASB 123R.  For a more detailed discussion on the
valuations made and assumptions used to calculate the fair value of our options
refer to Note 10 of our Annual Report on Form 10-K for the year ended December
31, 2008.





(3)  At
December 31, 2008, Mr. De Lia, Sr. held options to purchase 12,000 shares of
Common Stock.




(4)  At
December 31, 2008, Mr. Power held options to purchase 10,000 shares of Common
Stock.




(5)  At
December 31, 2008, Mr. Ritorto held options to purchase 12,000 shares of Common
Stock.




(6)  At
December 31, 2008, Mr. Rockwell held options to purchase 2,000 shares of Common
Stock.




(7)  At
December 31, 2008, Mr. Sands held options to purchase 10,000 shares of Common
Stock.




COMPENSATION
COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION




The
current members of the Compensation Committee are Messrs. Ritorto, DeLia and
Rockwell. The Board made all decisions concerning executive compensation related
to 2008. No executive officer of the Corporation served as a member of the Board
of Directors of another entity during 2008.  None of the members of
the Compensation Committee has ever been an officer or employee of Henry Bros.
Electronics, Inc. or any of its subsidiaries, and no “compensation committee
interlocks” existed during fiscal 2008.




COMPENSATION
DISCUSSION AND ANALYSIS




Through
the following questions and answers we explain all material elements of our
executive compensation:


34




What
are the objectives of our executive compensation programs?




Our
corporate goal is to maximize our total return to our shareholders through share
price appreciation. Towards this goal, we seek to compensate our executives at
levels that are competitive with peer companies so that we may attract, retain
and motivate highly capable executives. We also design our compensation programs
to align our executives’ interests with those of our shareholders.




Our 2008
executive compensation, reflects our effort to realize these
objectives.




What
are the principal components of our executive compensation
programs?




Overview:Our executive compensation
programs consist of three principal components: (i) a base salary; (ii) annual
bonuses; and (iii) stock option grants. The Company’s policy for compensating
our executive officers is intended to provide significant annual long-term
performance incentives. We describe each of these principal components
below.




Relationship of the
principal components:We have allocated the three principal
components of our executive compensation programs in a manner that we believe
optimizes each executive’s contribution to us. We have not established specific
formulae for making the allocation.




Base Salary:We do
not have employment agreements with any of our executives. Base salaries for
executive officers are determined by evaluating a variety of factors, including
the experience of the individual, the competitive marketplace for managerial
talent, the Company’s performance, the executive’s performance, and the
responsibilities of the executive.  Although our Compensation
Committee annually reviews salaries of our executive officers, our Compensation
Committee does not automatically adjust base salaries if it concludes that
adjustments to other components of the executive’s compensation would be more
appropriate.




Annual Bonus:Cash bonus
awards are based on a variety of factors, including the individual performance
of the executive and the Company’s performance.




Long-Term Incentive Compensation
(Stock Options for Common Shares):The
Compensation Committee believes that stock-based compensation arrangements are
essential in aligning the interests of management and the stockholders. The
Company’s 2002, 2006 and 2007 Stock Plans provides for the issuance of stock
options to its executive officers and other employees. Stock options to purchase
shares of the Company’s common stock are issued at an exercise price equal to
the fair market value of such stock on the date immediately preceding the date
on which the stock option is granted. These options typically vest over a three
to five year period from the date of grant and are granted to the Company’s
executive officers and other employees as part of their employment with the
Company or as a reward for past individual and corporate performance. The size
of awards is determined by the Committee based on factors such as the
executive’s position, individual performance and the Company’s
performance.




What
do we seek to reward and accomplish through our executive compensation
programs?




We
believe that our compensation programs, collectively, enable us to attract,
retain and motivate high quality executives. We provide annual bonus awards
primarily to provide performance incentives to employees to meet corporate
performance objectives. Our corporate objectives are measured by sales
increases, operating margins, net income and other items of performance as
determined on an annual basis. We design long-term incentive awards primarily to
motivate and reward employees over longer periods. Through vesting and
forfeiture provisions that we include in awards of stock options we provide an
additional incentive to executives to act in furtherance of our longer-term
interests. An executive whose employment with us terminates before equity-based
awards have vested, either because the executive has not performed in accordance
with our expectations or because the executive chooses to leave, will generally
forfeit the unvested portion of the award.


35




Why have we selected each principal
component of our executive compensation programs?




We have
selected programs that we believe are commonly used by public companies, both
within and outside of our industry, because we believe commonly used programs
are well understood by our shareholders, employees and analysts. Moreover, we
selected each program only after we first confirmed, with the assistance of
outside professional advisors, that the program comports with settled legal and
tax rules.




How
do we determine the amount of each principal component of compensation to our
executives?




Our
Compensation Committee exercises judgment and discretion in setting compensation
for our senior executives. The Committee exercises its judgment and discretion
only after it has first evaluated the recommendations of our Chief Executive
Officer and Chief Operating Officer and evaluated our corporate
performance.




What
specific items of corporate performance do we take into account in setting
compensation policies and making compensation decisions?




Our
corporate performance primarily impacts the annual bonuses and long-term
incentive compensation that we provide our executive officers. We use or weight
items of corporate performance differently in our annual bonus and long-term
compensation awards and some items are more determinative than
others.




Goals for
executives in 2008 varied because the areas of responsibility of executives
differ. Goals are generally developed around metrics tied to our growth and
profitability, including increases in revenue and operating profit, decreases in
expenses, execution of acquisitions, enhanced operational efficiencies and
development of additional opportunities for our long-term growth.




How
do we determine when awards are granted, including awards of equity-based
compensation?




Historically,
our Compensation Committee has awarded annual bonuses in the quarter following
the year end. The Compensation Committee makes awards of stock options on an ad
hoc basis, but generally quarterly, following review of pertinent financial
information and industry data. In addition, the Compensation Committee conducts
a thorough review of stock option awards and grant procedures annually. The date
on which the Committee has met has varied from year to year, primarily based on
the schedules of Committee members, the timing of compilation of data requested
by the Committee and the timing related to the hiring of senior
management.




Over the
past years our equity-based awards to executives have taken the form of stock
options. The number of stock options subject to an award has been computed by
taking into account the Company’s performance, the particular executive’s
performance, our retention objectives, and other factors.




What
factors do we consider in decisions to increase or decrease compensation
materially?




Historically,
we have generally not decreased the base salaries of our executive officers or
reduced their incentive compensation targets due to individual performance. When
an executive’s performance falls short of our expectations then we believe our
interests are best served by replacing the executive with an executive who
performs at the level we expect. The factors that we consider in decisions to
increase compensation include the individual performance of the executive,
responsibility of the executive and our corporate performance, as discussed
above.


36




To
what extent does our Compensation Committee consider compensation or amounts
realizable from prior compensation in setting other elements of
compensation?




The
primary focus of our Compensation Committee in setting executive compensation is
the executive’s current level of compensation, including recent awards of
long-term incentives, taking into account the executive’s performance and our
corporate performance. The Committee has not adopted a formulaic approach for
considering amounts realized by an executive from prior equity-based
awards.




How
do accounting considerations impact our compensation practices?




Accounting
consequences are not a material consideration in designing our compensation
practices. However, we design our equity awards so that its overall cost fell
within a budgeted dollar amount and so that the awards would qualify for
classification as equity awards under FAS 123R. Under FAS 123R the compensation
cost recognized for an award classified as an equity award is fixed for the
particular award and, absent modification, is not revised with subsequent
changes in market prices of our common shares or other assumptions used for
purposes of the valuation.




How
do tax considerations impact our compensation practices?




Prior to
implementation of a compensation program and awards under the program, we
evaluate the federal income tax consequences, both to us and to our executives,
of the program and awards. Before approving a program, our Compensation
Committee receives an explanation from our outside professionals as to the tax
treatment of the program and awards under the program and assurances from our
outside professionals that the tax treatment should be respected by taxing
authorities.




Section
162(m) of the Internal Revenue Code limits our tax deduction each year for
compensation to each of our Chief Executive Officer and our four other highest
paid executive officers to $1 million unless, in general, the compensation is
paid under a plan that is performance-related, non-discretionary and has been
approved by our shareholders. Generally, Section 162(m) has not had a
significant impact on our compensation programs.




What are our
equity or other security ownership requirements for executives and our policies
regarding hedging the economic risk of share ownership?




We do not
maintain minimum share ownership requirements for our executives. We do not have
a policy regarding hedging the economic risk of share ownership.




To
what extent do we benchmark total compensation and material elements of
compensation and what are the benchmarks that we use?




While the
Compensation Committee does not perform formal benchmarks, they do compare the
elements of total compensation to compensation provided by knowledge gained in
the industry.


37




Do
we have a policy regarding the recovery of awards or payments if corporate
performance measures upon which awards or payments are based are restated or
adjusted in a manner that would reduce the size of an award or
payment?




For
non-executive officers, we have a policy that provides for a case-by-case review
to determine if a recovery of an award is necessary if a performance measure
used to calculate the award is subsequently adjusted in a manner that would have
reduced the size of the award.  For executive officers, we have a
policy that requires a recovery of an award if a performance measure used to
calculate the award is subsequently adjusted in a manner that would have reduced
the size of the award.




What
is the role of our executive officers in the compensation process?




Our
Compensation Committee meets periodically with our Chief Executive Officer and
Chief Operating Officer to address executive compensation, including the
rationale for our compensation programs and the efficacy of the programs in
achieving our compensation objectives. The Compensation Committee also relies on
executive management to evaluate compensation programs to assure that they are
designed and implemented in compliance with laws and regulations, including SEC
reporting requirements. The Compensation Committee relies on the recommendations
of our Chief Executive Officer and Chief Operating Officer regarding the
performance of individual executives. At meetings in 2008 the Compensation
Committee received recommendations from our Chief Executive Officer and Chief
Operating Officer regarding salary adjustments and annual bonus and stock option
awards for our executive officers. Our Chief Executive Officer and Chief
Operating Officer play a significant role in determining the annual cash
compensation of our executive officers. The Compensation Committee believes that
it is important for it to receive the input of the Chief Executive Officer and
Chief Operating Officer on compensation matters since they are knowledgeable
about the activities of our executive officers and the performance of their
duties and responsibilities, as well as their contributions to the growth of the
Company and its business. The Compensation Committee accepted these
recommendations after concluding that the recommendations comported with the
Committee’s objectives and philosophy and the Committee’s evaluation of our
performance and industry data.




Compensation
Committee Report




Our
Compensation Committee has reviewed and discussed the Compensation Discussion
and Analysis with our management and based on the review and discussion
recommended to the Board that the Compensation Discussion and Analysis be
included in this Annual Report on Form 10-K. The Board accepted the Compensation
Committee’s recommendation. This report is made by the undersigned members of
the Compensation Committee:





Joseph P.
Ritorto (Chair)


Robert De
Lia, Sr.


Richard
D. Rockwell




Item
12.   Security Ownership of Certain Beneficial Owners and
Management and Related Stockholder Matters





a)           The
following table provides information with respect to the equity securities that
are authorized for issuance under our compensation plans as of December 31,
2008:





Equity
Compensation Plan Information - For the Year Ended December 31,
2008:


38





Plan
      category
                        
                        Number
      of securities to
                          be
      issued upon exercise
                          of
      outstanding options,
                          warrants
      and rights
                          (a)
                        
                        
                        Weighted
                          average
                          exercise
      price of
                          outstanding
                          options,
      warrants
                          and
      rights
                          (b)
                        
                        
                        Number
      of securities
                          remaining
      available for
                          future
      issuance under
                          equity
      compensation plans
                          (excluding
      securities
                          reflected
      in column (a))
                          (c)Equity
      compensation plans approved by security holders
                        
                        
                        984,515
                        *
                        
                        $
                        4.97
                        
                        
                        
                        245,485Equity
      compensation plans not approved by security holders
                        
                        
                        193,666
                        **
                        
                        $
                        7.60
                        
                        
                        
                        —Total
                        
                        
                        1,184,177
                        
                        
                        $
                        5.40
                        
                        
                        
                        245,485




* This
amount includes options issuable pursuant to our 2002, 2006 and 2007 Stock
Option Plans.  The plans authorizes the issuance of options to
purchase up to 230,000,  250,000 and 250,000 shares of our Common
Stock to employees, directors, and consultants of the Company under the 2002,
2006 and 2007 Stock Option Plans, respectively .





Also
included are options issuable pursuant to our Incentive Stock Option
Plan.  The Board of Directors and our shareholders approved the
adoption of the Incentive Stock Option Plan on December 23, 1999.  Our
Incentive Stock Option Plan provides for the granting of options to purchase a
maximum of 500,000 shares of the Company's common stock.





** This
amount includes warrants to purchase 138,333 and 55,333 shares at $7.60 expiring
July 27, 2009, that were granted in connection with the issuance of 553,333
shares of our common stock to certain qualified institutional investors and the
placement agent, respectively, in July 2004.




b)           Security
Ownership Of Certain Beneficial Owners And Management And Related Stockholder
Matters




The table
that follows sets forth, as of March 10, 2008 certain information regarding
beneficial ownership of our common stock by each person who is known by us to
beneficially own more than 5% of our common stock. The table also identifies the
stock ownership of each of our directors, each of our officers, and all
directors and officers as a group. Except as otherwise indicated, the
stockholders listed in the table have sole voting and investment powers with
respect to the shares indicated. Unless otherwise indicated, the business
address for each of the named individuals is Henry Bros. Electronics, Inc.,
17-01 Pollitt Drive, Fair Lawn, New Jersey 07410.




Shares of
common stock which an individual or group has a right to acquire within 60 days
pursuant to the exercise or conversion of options, warrants or other similar
convertible or derivative securities are deemed to be outstanding for the
purpose of computing the percentage ownership of such individual or group, but
are not deemed to be outstanding for the purpose of computing the percentage
ownership of any other person shown in the table.


39


The
applicable percentage of ownership is based on 5,971,583 shares outstanding as
of March 10, 2008.





Name address and title of beneficial
      owner
                      
                      Number
      of
                        shares
                        beneficially
                        owned
                      
                      
                      Percentage
      of Common
                        Stock
      Beneficially
                        OwnedJames
      E. Henry, Chairman, Chief Executive Officer, Treasurer and
      Director
                      
                      
                      1,275,378
                      
                      
                      
                      21.4
                      %Brian
      Reach, President, Chief Operating Officer, Secretary, and Director
      (1)
                      
                      
                      220,000
                      
                      
                      
                      3.7
                      %John
      P. Hopkins, Chief Financial Officer (2)
                      
                      
                      64,500
                      
                      
                      
                      1.1
                      %Brian
      J. Smith, Corporate Controller (3)
                      
                      
                      18,000
                      
                      
                      
                      *Christopher
      Peckham, Chief Information Officer / Chief Security Officer
      (4)
                      
                      
                      10,000
                      
                      
                      
                      *Robert
      De Lia, Sr., Director (5)
                      
                      
                      66,694
                      
                      
                      
                      1.1
                      %James
      W. Power, Director (6)
                      
                      
                      10,000
                      
                      
                      
                      *Joseph
      P. Ritorto, Director (7)
                      
                      
                      52,000
                      
                      
                      
                      *Richard
      D. Rockwell (8)
                      
                      
                      2,044,703
                      
                      
                      
                      34.2
                      %-David
      Sands, Director (9)
                      
                      
                      10,000
                      
                      
                      
                      *All
      executive officers and directors as a group (10 persons)
    (10)
                      
                      
                      3,795,510
                      
                      
                      
                      63.6
                      %*  Less
      than 1%




(1) The
amount shown for Mr. Reach includes a currently exercisable option to purchase
100,000 shares of the Company’s Common Stock at a price of $7.10 per share and a
currently exercisable option to purchase 20,000 shares of the Company’s Common
Stock at a price of $3.71 per share.




(2) The
amount shown for Mr. Hopkins includes a currently exercisable option to purchase
60,000 shares of the Company’s Common Stock at a price of $3.71 per
share.




(3) The
amount shown for Mr. Smith includes a currently exercisable option to purchase
16,000 shares of the Company’s Common Stock at a price of $4.26 per share and
2,000 shares of the Company’s Common Stock at a price of $4.11 per
share.




(4) The
amount shown for Mr. Peckham includes a currently exercisable option to purchase
10,000 shares of the Company’s Common Stock at a price of $4.65 per
share.




(5) The
amount shown for Mr. De Lia, Sr. includes four currently exercisable options to
purchase 2,000 shares each of the Company’s Common Stock at a price of $7.19,
$4.90, $3.33 and $4.65 per share, respectively, and one currently exercisable
option to purchase 4,000 shares of the Company’s Common Stock at a price of
$5.60 per share.




(6) The
amount shown for Mr. Power includes three currently exercisable options to
purchase 2,000 shares each of the Company’s Common Stock at a price of $6.08,
$3.33, and $4.65 per share, respectively, and one currently exercisable option
to purchase 4,000 shares of the Company’s Common Stock at a price of $5.60 per
share.


40


(7) The
amount shown for Mr. Ritorto includes four currently exercisable options to
purchase 2,000 shares each of the Company’s common stock at $7.19, $4.90, $3.33,
and $4.65 per share, respectively, and one currently exercisable option to
purchase 4,000 shares of the Company’s Common Stock at a price of $5.60 per
share.




(8)  The
amount shown for Mr. Rockwell includes a currently exercisable option to
purchase 2,000 shares of the Company’s Common Stock at a price of
$5.60.




(9) The
amount shown for Mr. Sands includes three currently exercisable options to
purchase 2,000 shares each of the Company’s Common Stock at a price of $4.90,
$3.33, and $4.65 per share, respectively, and one currently exercisable option
to purchase 4,000 shares of the Company’s Common Stock at a price of $5.60 per
share.




(10) The
amount shown includes currently exercisable options to purchase 208,000 shares
of the Company’s common stock.




Item
13.         Certain Relationships and
Related Transactions and Director Independence




a)         Joseph
P. Ritorto, a member of our Board of Directors since January 2002, was
co-founder of First Aviation Services, Inc. (“First Aviation”).  Mr.
Ritorto sold First Aviation to a group led by Goldman Sachs in May 2008. In 2007
and 2006, the Company had revenues of $546,375 and $678,138 principally
associated with an integrated security systems project with First
Aviation.  During the period in 2008 that the business was owned by
Mr. Ritorto, the Company had no revenues from First Aviation.  There
are no outstanding accounts receivable due from First Aviation at December 31,
2008 related to the period that the business was owned by Mr.
Ritorto.




b)           The
Company considers Messrs. De Lia, Power , Ritorto, Rockwell and Sands to be
independent directors in accordance the NASDAQ’s listing standards.




Item
14.    Principal Accountant Fees and Services




Fees
Paid to Our Independent Auditors During 2008 and 2007




Audit
Fees




The aggregate fees paid to Amper,
Politziner & Mattia, LLP for professional services rendered for the audits
of the Company’s annual financial statements on Form 10-K in 2008 and the review
of the financial statements on Form 10-Q for the quarters ended March 31, June
30, and September 30, 2008 were $161,710.




The aggregate fees paid to Amper,
Politziner & Mattia, LLP for professional services rendered for the audits
of the Company’s annual financial statements on Form 10-K in 2007 and the review
of the financial statements on Form 10-Q for the quarter ended September 30,
2007 were $144,200.




The aggregate fees billed by Demetrius
& Company, L.L.C. for professional services rendered for the reviews of the
financial statements on Form 10-Q for the quarters ended March 30 and June 30,
2007 were $15,000.




Audit-Related
Fees




There
were no audit-related fees paid to Amper, Politziner & Mattia, LLP in 2008
and 2007.


41




The
aggregate fees billed for audit-related services by Demetrius & Company,
L.L.C. for the year ended December 31, 2007 were approximately
$2,200.




Audit
related services include due diligence in connection with acquisitions,
consultation on accounting and internal control matters, audits in connection
with proposed or consummated acquisitions and review of registration
statements.




Tax Fees




There
were no tax fees paid to Amper, Politziner & Mattia, LLP in 2008 and
2007.




There
were no tax fees paid to Demetrius & Company, L.L.C. in 2007.




All Other
Fees




There
were no other fees paid to Amper, Politziner & Mattia, LLP in 2008 and
2007.




The
aggregate fees billed for all other professional services rendered by Demetrius
& Company, L.L.C. for the year ended December 31, 2007 was $15,000. These
fees related to a 401(k) plan audit.




Pre-Approval of Audit and
Permissible Non-Audit Services




The Audit
Committee approved 100% of the fees paid to the principal accountant for
audit-related, tax and other fees. The Audit Committee pre-approves all
non-audit services to be performed by the auditor. The percentage of hours
expended on the principal accountant’s engagement to audit the Company’s
financial statements for the most recent year that were attributed to work
performed by persons other than the principal accountant’s full-time, permanent
employees was 0%.




Part
IV




Item
15.         Exhibits, Financial
Statement Schedules




(a)
  The following consolidated financial statements and schedules are filed
at the end of this report, beginning on page F-l. Other schedules are omitted
because they are not required or are not applicable or the required information
is shown in the consolidated financial statements or notes thereto.





(b)
  See Exhibit Index following this Annual Report on Form 10-K.





Document
                  
                  PagesReports
      of Independent Registered Public Accounting Firms
                  
                  F-1
      to F-2Consolidated
      Balance Sheet as of December 31, 2008 and 2007
                  
                  F-3Consolidated
      Statements of Operations for the Years Ended December 31, 2008, 2007 and
      2006
                  
                  F-4Consolidated
      Statements of Shareholder’s Equity for the Years Ended December 31, 2008,
      2007 and 2006
                  
                  F-5Consolidated
      Statements of Cash Flows for the Years Ended December 31, 2008, 2007 and
      2006
                  
                  F-6Notes
      to Consolidated Financial Statements
                  
                  F-7
      to F-35


42


SIGNATURES





Pursuant
to the requirements of Section 13 or 15 (d) of the Securities Exchange Act of
1934 as amended, the Registrant had duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.





Date:   
      March 23, 2008
                            HENRY
      BROTHER ELECTRONICS, INC.By:   /s/
      James E. HenryJames
      E. HenryChairman,
      Chief Executive Officer, Treasurer and Director





Pursuant
to the requirements of the Securities Exchange Act of 1934 as amended, this
report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.





Each
person, in so signing also makes, constitutes, and appoints James E. Henry and
Brian Reach, and each of them acting alone, as his true and lawful
attorneys-in-fact, with full power of substitution, in his name, place, and
stead, to execute and cause to be filed with the SEC any or all amendments to
this report.


SIGNATURE





Date:    March 23,
    2008
                                                      /s/
      James E. HenryJames
      E. HenryChairman,
      Chief Executive Officer, Treasurer and DirectorDate:   
      March 23, 2008
                                                      /s/
      Brian ReachBrian
      ReachPresident,
      Chief Operating Officer,Secretary
      and DirectorDate:   
      March 23, 2008
                                                      /s/
      John P. HopkinsJohn
      P. HopkinsChief
      Financial OfficerDate:   
      March 23, 2008
                                                      /s/  Robert
      L. DeLia Sr.Robert
      L. DeLia Sr.DirectorDate:   
      March 23, 2008
                                                      /s/
      James W. PowerJames
      W. PowerDirectorDate:   
      March 23, 2008
                                                      /s/
      Joseph P. RitortoJoseph
      P. RitortoDirectorDate:   
      March 23, 2008
                                                      /s/
      Richard D. RockwellRichard
      D. RockwellDirectorDate:   
      March 23, 2008
                                                      /s/
      David SandsDavid
      SandsDirector


43




REPORT
OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM





To the
Board of Directors and Stockholders of


Henry
Bros. Electronics, Inc. and Subsidiaries





We have
audited the accompanying consolidated balance sheets of Henry Bros. Electronics,
Inc. and Subsidiaries (the “Company”) as of December 31 2008 and 2007, and the
related consolidated statements of operations, stockholders’ equity, and cash
flows for the years then ended. These financial statements are the
responsibility of the Company’s management.  Our responsibility is to
express an opinion on these financial statements based on our
audits.





We
conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audits to obtain reasonable assurance about whether the
financial statements are free of material misstatement. The Company is not
required to have, nor were we engaged to perform, an audit of its internal
control over financial reporting. Our audit included consideration of internal
control over financial reporting as a basis for designing audit procedures that
are appropriate in the circumstances, but not for the purpose of expressing an
opinion on the effectiveness of the Company’s internal control over financial
reporting. Accordingly we express no such opinion. An audit also includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements, assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.





In our
opinion, the consolidated financial statements referred to above present fairly,
in all material respects, the financial position of Henry Bros. Electronics,
Inc. and Subsidiaries as of December 31, 2008 and 2007, and the results of its
operations and its cash flows for the years then ended in conformity with
accounting principles generally accepted in the United States of
America.





As
discussed in Note 9 to the consolidated financial statements, in 2007, Henry
Bros. Electronics, Inc. and Subsidiaries adopted the provisions of FIN 48,
“Accounting for Uncertainty in Income Taxes – an Interpretation of FASB
Statement No. 109.”





In
connection with our audits of the financial statements referred to above, we
audited Schedule II – Valuation and Qualifying Accounts.  In our
opinion, the financial schedule, when considered in relation to the financial
statements taken as a whole, presents fairly, in all material respects, the
information stated therein.




/s/
Amper, Politziner & Mattia LLP





March 19,
2009


Edison,
New Jersey


F-1





Report
of Independent Registered Public Accounting Firm





Board of
Directors and Stockholders


Henry
Bros. Electronics, Inc. and Subsidiaries





We have
audited the accompanying  consolidated statements of operations,
stockholders’ equity, and cash flows of Henry Bros. Electronics, Inc. and
Subsidiaries for the year ended December 31, 2006.  These financial
statements are the responsibility of the Company’s management.  Our
responsibility is to express an opinion on these financial statements based on
our audit.





We
conducted our audit in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. The Company is not required to
have, nor were we engaged to perform, an audit of its internal control over
financial reporting. Our audit included consideration of internal control over
financial reporting as a basis for designing audit procedures that are
appropriate in the circumstances, but not for the purpose of expressing an
opinion on the effectiveness of the Company’s internal control over financial
reporting. Accordingly we express no such opinion.An audit also includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements, assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audit provides a
reasonable basis for our opinion.





In our
opinion, the consolidated financial statements referred to above present fairly,
in all material respects, the results of operations of Henry Bros. Electronics,
Inc. and Subsidiaries, and their cash flows for the year ended December 31,
2006, in conformity with accounting principles generally accepted in the United
States of America.





/s/
Demetrius & Company, L.L.C.




Wayne,
New Jersey


October
17, 2007


F-2





HENRY
BROS. ELECTRONICS, INC. AND SUBSIDIARIES


CONSOLIDATED
BALANCE SHEETS





December
      31,2008
                      
                      
                      2007ASSETSCURRENT
      ASSETSCash
      and cash equivalents
                      
                      $
                      27,704
                      
                      
                      $
                      3,277,450Accounts
      receivable-net of allowance for doubtful accounts$801,306
      in 2008 and $810,588 in 2007
                      
                      
                      18,164,066
                      
                      
                      
                      13,306,558Inventory
                      
                      
                      1,201,477
                      
                      
                      
                      1,460,931Costs
      in excess of billings and estimated profits
                      
                      
                      5,512,101
                      
                      
                      
                      3,195,039Deferred
      tax asset
                      
                      
                      1,363,309
                      
                      
                      
                      739,563Retainage
      receivable
                      
                      
                      1,756,481
                      
                      
                      
                      1,708,125Prepaid
      expenses and income tax receivable
                      
                      
                      878,003
                      
                      
                      
                      900,924Other
      assets
                      
                      
                      330,052
                      
                      
                      
                      315,081Total
      current assets
                      
                      
                      29,233,193
                      
                      
                      
                      24,903,671Property
      and equipment - net of accumulated depreciation $2,993,961 in 2008 and
      $2,408,653 in 2007
                      
                      
                      2,620,790
                      
                      
                      
                      2,408,640Goodwill
                      
                      
                      3,592,080
                      
                      
                      
                      3,379,030Intangible
      assets - net of accumulated amortization
                      
                      
                      1,016,665
                      
                      
                      
                      1,183,547Deferred
      tax asset
                      
                      
                      -
                      
                      
                      
                      306,224Other
      assets
                      
                      
                      147,380
                      
                      
                      
                      150,458TOTAL
      ASSETS
                      
                      $
                      36,610,108
                      
                      
                      $
                      32,331,570LIABILITIES
      & STOCKHOLDERS' EQUITYCURRENT
      LIABILITIESAccounts
      payable
                      
                      $
                      6,927,365
                      
                      
                      $
                      8,157,774Accrued
      expenses
                      
                      
                      4,833,618
                      
                      
                      
                      3,128,965Accrued
      taxes
                      
                      
                      200,774
                      
                      
                      
                      139,403Billings
      in excess of costs and estimated profits
                      
                      
                      2,006,751
                      
                      
                      
                      1,577,002Deferred
      income
                      
                      
                      157,890
                      
                      
                      
                      206,460Current
      portion of long-term debt
                      
                      
                      629,742
                      
                      
                      
                      634,948Revolving
      loan
                      
                      
                      -
                      
                      
                      
                      3,635,897Other
      current liabilities
                      
                      
                      532,932
                      
                      
                      
                      451,490Total
      current liabilities
                      
                      
                      15,289,072
                      
                      
                      
                      17,931,939Long-term
      debt, less current portion
                      
                      
                      4,855,662
                      
                      
                      
                      465,539Deferred
      tax Liability
                      
                      
                      406,417
                      
                      
                      
                      -TOTAL
      LIABILITIES
                      
                      
                      20,551,151
                      
                      
                      
                      18,397,478STOCKHOLDERS'
      EQUITYPreferred
      stock, $.01 par value; 2,000,000 shares authorized; no shares
      issued
                      
                      
                      -
                      
                      
                      
                      -Common
      stock, $.01 par value; 10,000,000 shares authorized; 5,966,583 shares
      issued and outstanding in 2008 and 5,926,065 in 2007
                      
                      
                      59,666
                      
                      
                      
                      59,261Additional
      paid in capital
                      
                      
                      17,732,596
                      
                      
                      
                      17,165,892Accumulated
      deficit
                      
                      
                      (1,733,305
                      )
                      
                      
                      (3,291,061
                      )TOTAL
      EQUITY
                      
                      
                      16,058,957
                      
                      
                      
                      13,934,092TOTAL
      LIABILITIES & STOCKHOLDERS' EQUITY
                      
                      $
                      36,610,108
                      
                      
                      $
                      32,331,570





See
accompanying notes to the consolidated financial
statements.


F-3





HENRY
BROS. ELECTRONICS, INC. AND SUBSIDIARIES


CONSOLIDATED
STATEMENTS OF OPERATIONS





For the years ended December 31,2008
                            
                            
                            2007
                            
                            
                            2006Revenue
                            
                            $
                            62,357,466
                            
                            
                            $
                            57,852,216
                            
                            
                            $
                            42,132,852Cost
      of revenue
                            
                            
                            46,465,194
                            
                            
                            
                            45,076,126
                            
                            
                            
                            30,818,832Gross
      profit
                            
                            
                            15,892,272
                            
                            
                            
                            12,776,090
                            
                            
                            
                            11,314,020Operating
      expenses:Selling,
      general and administrative expenses
                            
                            
                            12,797,730
                            
                            
                            
                            12,695,509
                            
                            
                            
                            12,720,381Goodwill
      and intangible asset impairment charges
                            
                            
                            -
                            
                            
                            
                            43,999
                            
                            
                            
                            1,191,000Operating
      profit (loss)
                            
                            
                            3,094,542
                            
                            
                            
                            36,582
                            
                            
                            
                            (2,597,361
                            )Interest
      income
                            
                            
                            91,558
                            
                            
                            
                            73,493
                            
                            
                            
                            19,515Other
      income (expense)
                            
                            
                            17,266
                            
                            
                            
                            (191
                            )
                            
                            
                            (674
                            )Interest
      expense
                            
                            
                            (271,290
                            )
                            
                            
                            (349,907
                            )
                            
                            
                            (103,923
                            )Income
      (loss) before tax expense
                            
                            
                            2,932,076
                            
                            
                            
                            (240,023
                            )
                            
                            
                            (2,682,443
                            )Provision
      for (benefit from) income taxes
                            
                            
                            1,374,320
                            
                            
                            
                            63,281
                            
                            
                            
                            (422,305
                            )Net
      income (loss)
                            
                            $
                            1,557,756
                            
                            
                            $
                            (303,304
                            )
                            
                            $
                            (2,260,138
                            )BASIC EARNINGS (LOSS) PER COMMON
      SHARE:Basic
      earnings (loss) per common share
                            
                            $
                            0.27
                            
                            
                            $
                            (0.05
                            )
                            
                            $
                            (0.39
                            )Weighted
      average common shares
                            
                            
                            5,786,104
                            
                            
                            
                            5,768,864
                            
                            
                            
                            5,749,964DILUTED EARNINGS (LOSS) PER COMMON
      SHARE:Diluted
      earnings (loss) per common share
                            
                            $
                            0.26
                            
                            
                            $
                            (0.05
                            )
                            
                            $
                            (0.39
                            )Weighted
      average diluted common shares
                            
                            
                            5,988,782
                            
                            
                            
                            5,768,864
                            
                            
                            
                            5,749,964





See
accompanying notes to the consolidated financial
statements.


F-4





HENRY
BROS. ELECTRONCS, INC. AND SUBSIDIARIES


CONSOLIDATED
STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY





Common Stockpar value $.01
                                                
                                                Additional10,000,000 Authorized
                                                
                                                
                                                Paid-in
                                                
                                                
                                                RetainedShares
                                                
                                                
                                                Amount
                                                
                                                
                                                Capital
                                                
                                                
                                                Earnings
                                                
                                                
                                                TotalBalance
      at December 31, 2005
                                                
                                                
                                                5,889,399
                                                
                                                
                                                $
                                                58,894
                                                
                                                
                                                $
                                                16,956,008
                                                
                                                
                                                $
                                                (689,058
                                                )
                                                
                                                $
                                                15,982,966Employee
      stock options exercised
                                                
                                                
                                                6,666
                                                
                                                
                                                
                                                67
                                                
                                                
                                                
                                                30,930
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                30,997Value
      of stock option grants
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                230,267
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                -Shares
      issued in connection with the acquisition of CIS Security
      Systems
                                                
                                                
                                                20,000
                                                
                                                
                                                
                                                200
                                                
                                                
                                                
                                                67,000
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                67,200Amortization
      of value assigned to stock option grants
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                189,593Net
      loss for December 31, 2006
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                (2,260,138
                                                )
                                                
                                                
                                                (2,260,138
                                                )Balance
      at December 31, 2006
                                                
                                                
                                                5,916,065
                                                
                                                
                                                
                                                59,161
                                                
                                                
                                                
                                                17,284,205
                                                
                                                
                                                
                                                (2,949,196
                                                )
                                                
                                                
                                                14,010,618Reclassification
      of deferred stock compensation upon adoption of  SFAS
      123(R)
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                (383,552
                                                )-Cumualitive
      effect for adpotion of Fin 48
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                (38,561
                                                )
                                                
                                                
                                                (38,561
                                                )Shares
      issued in connection with the acquisition of CIS Security
      Systems
                                                
                                                
                                                10,000
                                                
                                                
                                                
                                                100
                                                
                                                
                                                
                                                37,400
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                37,500Amortization
      of value assigned to stock option grants
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                227,839
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                227,839Net
      loss for December 31, 2007
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                (303,304
                                                )
                                                
                                                
                                                (303,304
                                                )Balance
      at December 31, 2007
                                                
                                                
                                                5,926,065
                                                
                                                
                                                
                                                59,261
                                                
                                                
                                                
                                                17,165,892
                                                
                                                
                                                
                                                (3,291,061
                                                )
                                                
                                                
                                                13,934,092Recovery
      from shareholder, net
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                59,443
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                59,443Surrendered
      shares to purchase fixed asset
                                                
                                                
                                                (3,200
                                                )
                                                
                                                
                                                (32
                                                )
                                                
                                                
                                                (14,048
                                                )
                                                
                                                
                                                
                                                
                                                
                                                
                                                (14,080
                                                )Employee
      stock options exercised
                                                
                                                
                                                23,718
                                                
                                                
                                                
                                                237
                                                
                                                
                                                
                                                119,021
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                119,258Shares
      issued in connection with the acquisition of CIS Security
      Systems
                                                
                                                
                                                20,000
                                                
                                                
                                                
                                                200
                                                
                                                
                                                
                                                120,350
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                120,550Amortization
      of value assigned to stock option grants
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                281,938
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                281,938Net
      income for December 31, 2008
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                
                                                1,557,756
                                                
                                                
                                                
                                                1,557,756Balance
      at December 31, 2008
                                                
                                                
                                                5,966,583
                                                
                                                
                                                $
                                                59,666
                                                
                                                
                                                $
                                                17,732,596
                                                
                                                
                                                $
                                                (1,733,305
                                                )
                                                
                                                $
                                                16,058,957





See
accompanying notes to the consolidated financial
statements.


F-5





HENRY BROS. ELECTRONICS, INC. AND
SUBSIDIARIES


CONSOLIDATED
STATEMENTS OF CASH FLOWS





For the years ended December 31,2008
                    
                    
                    2007
                    
                    
                    2006Cash
      flows from operating activities:Net
      income (loss)
                    
                    $
                    1,557,756
                    
                    
                    $
                    (303,304
                    )
                    
                    $
                    (2,260,138
                    )Adjustments
      to reconcile net income (loss) from operations to net cash (used in)
      provided by operating activities:Depreciation
      and amortization
                    
                    
                    840,738
                    
                    
                    
                    899,325
                    
                    
                    
                    699,559Bad
      debt expense
                    
                    
                    346,602
                    
                    
                    
                    41,123
                    
                    
                    
                    172,402Provision
      for obsolete inventory
                    
                    
                    202,490
                    
                    
                    
                    180,000
                    
                    
                    
                    384,000Impairment
      charges
                    
                    
                    -
                    
                    
                    
                    43,999
                    
                    
                    
                    1,191,000Stock
      option expense
                    
                    
                    281,938
                    
                    
                    
                    227,839
                    
                    
                    
                    189,593Deferred
      income taxes
                    
                    
                    88,895
                    
                    
                    
                    (26,730
                    )
                    
                    
                    (386,007
                    )Changes
      in operating assets and liabilities:Accounts
      receivable
                    
                    
                    (5,204,110
                    )
                    
                    
                    280,677
                    
                    
                    
                    (3,071,303
                    )Inventory
                    
                    
                    56,964
                    
                    
                    
                    67,002
                    
                    
                    
                    (801,540
                    )Costs
      in excess of billings and estimated profits
                    
                    
                    (2,317,062
                    )
                    
                    
                    1,448,430
                    
                    
                    
                    (1,484,855
                    )Retainage
      receivable
                    
                    
                    (48,357
                    )
                    
                    
                    (317,657
                    )
                    
                    
                    (180,454
                    )Other
      assets
                    
                    
                    (14,970
                    )
                    
                    
                    (25,002
                    )
                    
                    
                    (21,809
                    )Prepaid
      expenses and income tax receivable
                    
                    
                    22,920
                    
                    
                    
                    (446,123
                    )
                    
                    
                    (204,614
                    )Accounts
      payable
                    
                    
                    (1,230,408
                    )
                    
                    
                    2,184,728
                    
                    
                    
                    1,930,035Accrued
      expenses
                    
                    
                    1,766,022
                    
                    
                    
                    (1,576,749
                    )
                    
                    
                    2,285,202Billings
      in excess of costs and estimated profits
                    
                    
                    429,749
                    
                    
                    
                    409,743
                    
                    
                    
                    (9,554
                    )Deferred
      income
                    
                    
                    (48,571
                    )
                    
                    
                    (270,315
                    )
                    
                    
                    (93,714
                    )Other
      liabilities
                    
                    
                    81,437
                    
                    
                    
                    198,609
                    
                    
                    
                    19,587Net
      cash (used in) provided by operating activities
                    
                    
                    (3,187,967
                    )
                    
                    
                    3,015,594
                    
                    
                    
                    (1,642,610
                    )Cash
      flows from investing activities:Purchase
      of businesses, net of cash acquired
                    
                    
                    (62,500
                    )
                    
                    
                    (25,000
                    )
                    
                    
                    (1,666,363
                    )Purchase
      of property and equipment
                    
                    
                    (569,494
                    )
                    
                    
                    (652,704
                    )
                    
                    
                    (1,393,001
                    )Net
      cash used in investing activities
                    
                    
                    (631,994
                    )
                    
                    
                    (677,704
                    )
                    
                    
                    (3,059,364
                    )Cash
      flows from financing activities:Recovery
      from shareholder, net
                    
                    
                    59,443
                    
                    
                    
                    -
                    
                    
                    
                    -Proceeds
      from issuance of common stock - net of fees
                    
                    
                    119,258
                    
                    
                    
                    -
                    
                    
                    
                    30,997Net
      proceeds from revolving bank lines
                    
                    
                    700,001
                    
                    
                    
                    788,000
                    
                    
                    
                    2,847,896Proceeds
      from bank loans
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    186,500Payments
      of bank loans
                    
                    
                    (221,110
                    )
                    
                    
                    (206,602
                    )
                    
                    
                    (217,810
                    )Net
      repayments of other debt
                    
                    
                    -
                    
                    
                    
                    (9,135
                    )
                    
                    
                    (26,465
                    )Net
      change in equipment financing
                    
                    
                    (87,377
                    )
                    
                    
                    167,443
                    
                    
                    
                    (96,977
                    )Net
      cash provided by financing activities
                    
                    
                    570,215
                    
                    
                    
                    739,706
                    
                    
                    
                    2,724,141(Decrease)
      Increase in cash and cash equivalents
                    
                    
                    (3,249,746
                    )
                    
                    
                    3,077,597
                    
                    
                    
                    (1,977,833
                    )Cash
      and cash equivalents - beginning of period
                    
                    
                    3,277,450
                    
                    
                    
                    199,853
                    
                    
                    
                    2,177,686Cash
      and cash equivalents - end of period
                    
                    $
                    27,704
                    
                    
                    $
                    3,277,450
                    
                    
                    $
                    199,853Supplemental
      disclosure of cash flow information:Amount
      paid for the period for:Interest
                    
                    $
                    265,876
                    
                    
                    $
                    331,924
                    
                    
                    $
                    86,093Taxes
                    
                    
                    1,032,642
                    
                    
                    
                    240,000
                    
                    
                    
                    325,812Non-cash
      investing and financing activities:Equipment
      financed
                    
                    
                    316,511
                    
                    
                    
                    359,040
                    
                    
                    
                    250,493Issuance
      of stock to acquire businesses
                    
                    
                    120,550
                    
                    
                    
                    37,500
                    
                    
                    
                    67,200Surrender
      shares to purchase fixed assets
                    
                    
                    14,080
                    
                    
                    
                    -
                    
                    
                    
                    -





See
accompanying notes to the consolidated financial statements.


F-6





HENRY
BROS. ELECTRONICS, INC. AND SUBSIDIARIES


Notes
to the Consolidated Financial Statements





1.    NATURE
OF OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES




Henry
Bros. Electronics, Inc., (the “Company”) and its subsidiaries, are divided into
two business segments – Security System Integration (“Integration”) and
Specialty Products and Services (“Specialty”). The Integration segment provides
“cradle to grave” services for a wide variety of security, communications and
control systems.  The Company specializes in turn-key systems that
integrate many different technologies.  Systems are customized to meet
the specific needs of its customers. Through the Specialty Products and Services
segment we provide emergency preparedness programs, mobile digital recording
solutions and specialized radio frequency communication equipment and
integration.  Each of the Company’s segments markets nationwide with
an emphasis in the Arizona, California, Colorado, Maryland, New Jersey, New
York, Texas and Virginia metropolitan areas. Customers are primarily medium and
large businesses and governmental agencies. The Company derives a majority of
its revenues from project installations and to a smaller extent, maintenance
service revenue.




The table
below shows revenue percentage by geographic location for each of the years
ended December 31:





2008
                      
                      
                      2007
                      
                      
                      2006New
      Jersey/New York
                      
                      
                      45
                      %
                      
                      
                      46
                      %
                      
                      
                      44
                      %California
                      
                      
                      20
                      %
                      
                      
                      20
                      %
                      
                      
                      27
                      %Texas
                      
                      
                      4
                      %
                      
                      
                      4
                      %
                      
                      
                      3
                      %Arizona
                      
                      
                      11
                      %
                      
                      
                      8
                      %
                      
                      
                      7
                      %Colorado
                      
                      
                      8
                      %
                      
                      
                      9
                      %
                      
                      
                      11
                      %Maryland
      / Virginia (1)
                      
                      
                      10
                      %
                      
                      
                      8
                      %
                      
                      
                      4
                      %Integration
      segment
                      
                      
                      98
                      %
                      
                      
                      95
                      %
                      
                      
                      96
                      %Specialty
      segment
                      
                      
                      2
                      %
                      
                      
                      7
                      %
                      
                      
                      7
                      %Inter-segment
                      
                      
                      0
                      %
                      
                      
                      -2
                      %
                      
                      
                      -3
                      %Total
      revenue
                      
                      
                      100
                      %
                      
                      
                      100
                      %
                      
                      
                      100
                      %





(1)
Acquired October 2, 2006





F-7


HENRY
BROS. ELECTRONICS, INC. AND SUBSIDIARIES


Notes
to the Consolidated Financial Statements (continued)




SUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES




(a)Principles of
Consolidation




The
consolidated financial statements include the accounts of the Company and its
wholly-owned subsidiaries.  Acquisitions are recorded as of the
purchase date, and are included in the consolidated financial statements from
the date of acquisition.  All material intercompany transactions have
been eliminated in consolidation.




(b)   Reclassifications




The
presentation of certain prior year information has been reclassified to conform
to the current year presentation.  The Company has reclassified
certain costs from cost of revenue into selling, general and administrative
expenses.  The amount of this reclassification was $692,635, $499,179,
and $767,904, for the years ended December 31, 2008, 2007 and 2006,
respectively.  These reclassifications had no impact on operating
profit (loss).  The gross profit for each of the quarters for the
years ended December 31, 2008 and 2007 reflect the impact of this
reclassification (See Note 18).




(c)   Revenue
Recognition




Revenue
from a project in either the Integration or Specialty segments are recognized on
the percentage of completion method, whereby revenue and the related gross
profit are determined based upon the actual costs incurred to date for the
project to the total estimated project costs at completion. Project costs
generally include all material and shipping costs, the Company’s direct labor,
subcontractor costs and an allocation of indirect costs related to the direct
labor. Changes in the project scope, site conditions, staff performance and
delays or problems with the equipment used on the project can result in
increased costs that may not be billable or accepted by the customer and results
in a loss or lower profit from what was originally anticipated at the time of
the proposal.




Estimates
for the costs to complete the project are periodically updated by management
during the performance of the project. Provision for changes in estimated costs
and losses, if any, on uncompleted projects are made in the period in which such
losses are determined.In general, we determine a
project to be substantially completed after:




1.
              The
      scope of work is completed which includes installing the equipment as
      required in the contract.




2.
            System
      is functional and has been tested.




3.
            Training
      has been provided.


F-8


HENRY
BROS. ELECTRONICS, INC. AND SUBSIDIARIES


Notes
to the Consolidated Financial Statements (continued)




Except
for projects in excess of $1 million, the majority of the Company’s projects are
completed within a year. Revenue from product sales are recognized when title
and risk of loss passes to the customer.  Service contracts, which are
separate and distinct agreements from project agreements, are billed either
monthly or quarterly.  Accordingly, revenues from service contracts
are recognized ratably over the length of the agreement.




(d)   Use
of Estimates




The
preparation of financial statements, in conformity with generally accepted
accounting principles in the United States, requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and the disclosure of contingent assets and liabilities, at the date
of the financial statements and the reported amount of revenues and expenses
during the reporting period.  Actual results could differ from those
estimates.




Revenue
and costs relating to security integration systems projects and service
agreements are particularly affected by management’s estimates. The contract
sale price and estimated costs are based upon the facts and circumstances known
at the time of the proposal. Estimates for the costs to complete the contract
are periodically updated during the performance of the contract. Unpredictable
events can occur during the performance of the contract that can increase the
costs and reduce the estimated gross profit. Change orders to record additional
costs may not be approved or can become subject to long negotiations with the
customer and can result in concessions by the Company. Considerable judgments
are made during the performance of the contract that affects the Company’s
revenue recognition and cost accruals that may have a significant impact on the
results of operations reported by the Company.




(e)   Cash
Equivalents




The
Company considers highly liquid instruments with original maturity of three
months or less to be cash equivalents.




(f)   Trade
Receivables and Allowance for Doubtful Accounts




Trade
receivables are stated at net realizable value.  This value includes
an appropriate allowance for estimated uncollectible accounts. The allowance is
evaluated on a regular basis by management and is based upon historical
experience with the customer, the aging of the past due amounts and the
relationship with and economic status of our customers. The evaluation is based
upon estimates taking into account the facts and circumstances at the time of
the evaluation. Actual uncollectible accounts could exceed the Company’s
estimates and changes to its estimates will be accounted for in the period of
change.  Account balances are charged against the allowance after all
means of collection have been exhausted and the potential for recovery is
considered remote.





F-9




HENRY
BROS. ELECTRONICS, INC. AND SUBSIDIARIES


Notes
to the Consolidated Financial Statements (continued)




(g)   Inventory




Inventory
is stated at the lower of cost or market value.  Cost has been
determined using the first-in, first-out method.  Inventory quantities
on-hand are periodically reviewed, and where necessary, reserves for excess and
obsolete inventories are recorded.




(h)  Retainage
Receivable




Retainage
receivables represent balances billed but not paid pursuant to retainage
provisions of the project contracts and will be due and payable upon completion
of specific tasks or the completion of the contract.




(i)   Property
and Equipment




Property
and equipment are recorded at cost, net of accumulated
depreciation.  Depreciation is computed on a straight-line basis over
estimated useful lives of four to ten years.  Leasehold improvements
are amortized over the shorter of related lease term or the estimated useful
lives.  Upon retirement or sale, the costs of the assets disposed of
and the related accumulated depreciation are removed from the accounts and any
resulting gain or loss is included in the determination of
income.  Repairs and maintenance costs are expensed as incurred.
Annually, the Company routinely reviews its property and equipment for
impairment, and accordingly, will write-down those assets to their estimated
fair value.  There was no impaired property and equipment in 2008,
2007 and 2006.




(j)    Intangible
Assets




The
Company’s intangible assets include goodwill and other intangibles that consist
of the fair value of acquired customer lists, service contracts acquired, trade
names, and covenants not to compete.  Goodwill represents the excess
of purchase price over fair value of net assets acquired at the date of
acquisition.




The
Company follows the provisions of Statement of Financial and Accounting
Standards (SFAS) 142 “Goodwill and Other Intangible Assets”, whereby goodwill
and intangible assets with indefinite lives are not amortized, but are tested at
least annually for impairment. Prior to January 1, 2002, the Company had not
recorded goodwill or other intangible assets with indefinite lives. Intangible
assets with estimable useful lives, consisting primarily of acquired customer
lists, service contracts and covenants not to compete, are amortized on a
straight-line basis over their estimated useful lives of three to fifteen years
and are reviewed for impairment whenever events or changes in circumstances
indicate that the carrying amount of an asset or asset group may not be
recoverable. If the intangible asset’s remaining useful life is changed, the
intangible asset will be amortized over the remaining useful life. If the asset
being amortized is determined to have an indefinite useful life, the asset will
be tested for impairment. The impairment test will consist of measuring its fair
value with its carrying amount. If the carrying amount of the intangible assets
exceeds its fair value, an impairment loss is recognized for an amount equal to
the excess and the adjusted carrying amount is recognized as its new accounting
basis. The Company recorded an impairment charge of $43,999 for the write down
of a trade name for the year ended December 31, 2007.  There were no
write downs for the years ended December 31, 2008 and 2006.


F-10


HENRY
BROS. ELECTRONICS, INC. AND SUBSIDIARIES


Notes
to the Consolidated Financial Statements (continued)




(k)   Goodwill




The
Company’s goodwill impairment test is based on a two part procedure consistent
with the requirements of SFAS 142. The first test consists of determining the
fair value of the reporting unit and comparing it to the carrying value of the
reporting unit. If the carrying value of the reporting unit exceeds the fair
value of the reporting unit, a second test is performed. In step two, the
implied fair value of the goodwill (which is the excess of the fair value of the
reporting unit over the fair value of the net assets) is compared to the
carrying value of the goodwill. An impairment loss is recognized for any excess
value of goodwill over the implied value. The Company determines the reporting
unit by analyzing geographic region, as management evaluates the Company’s
performance in this manner. We identified five separate and distinct operating
units for the testing requirements of SFAS 142. In 2008 and 2007, no charges to
operations resulted from management’s goodwill impairment
evaluation.  However, based upon our 2006 evaluation, the Company took
a charge to operations of $1.2 million (or $.21 per diluted share) associated
with goodwill impairment associated with our California banking vertical
market.




(l)   Concentrations
of Credit Risk




Financial
instruments that potentially subject the Company to concentrations of credit
risk consist primarily of cash, cash equivalents and accounts receivable. At
various times, the Company had cash balances at certain financial institutions
in excess of federally insured limits.  However, the Company does not
believe that it is subject to unusual credit risk beyond the normal credit risk
associated with commercial banking relationships.




Credit
risk is generally diversified due to the large number of customers that make up
the Company’s customer base and their geographic dispersion. The Company
performs an ongoing credit evaluation of its customers. In 2008, billings to one
customer represented 6.8% of the Company’s consolidated revenue or 6.9% of
revenue from the Integration segment. In 2008, accounts receivable from one
customer represented 10.1% of the Company’s consolidated net accounts
receivable.  Revenues from local government agencies were 36.7%, 40.7%
and 22.6%  of total revenue for the years ended December 31, 2008,
2007 and 2006, respectively.






F-11


HENRY
BROS. ELECTRONICS, INC. AND SUBSIDIARIES


Notes
to the Consolidated Financial Statements (continued)




Timely
vendor deliveries of equipment meeting our quality control standards from all
suppliers are also important to our business because each installed system
requires the integration of a variety of elements to be fully functional. The
failure to deliver any component when required, in operating condition, can
delay the project, triggering contract penalties, delay in progress payments and
may result in cancellation of the project.




(m)   Income
Taxes




Deferred
taxes are provided on the asset and liability method whereby assets and
liabilities are recognized for taxable temporary
differences.  Temporary differences are the differences between the
amounts reported for financial statement purposes and corresponding amounts for
tax purposes.  Deferred tax assets are reduced by a valuation
allowance when, in the opinion of management, it is more likely than not that
some portion or all of the deferred tax assets will not be
realized.  Deferred tax assets and liabilities are adjusted for the
effects of changes in tax laws and rates on the date of enactment.




(n)   Fair
Value of Financial Instruments




The
carrying amounts of the Company’s financial instruments, which include cash
equivalents, accounts receivable, accounts payable, accrued expenses, short and
long-term debt, approximate their fair values as of December 31,2008.




(o)   Advertising
Costs




The
Company expenses advertising cost when the advertisement
occurs.  Total advertising expenses amounted to approximately $93,599,
$63,759 and $67,542 for the years ended December 31, 2008, 2007 and 2006,
respectively.




(p)   Stock
Based Compensation





The
Company follows Financial Accounting Standards Board (“FASB”) Statement of
Financial Accounting Standards (“SFAS”) No. 123 (revised 2004), “Shared−Based
Payment,” (SFAS No. 123R). SFAS No. 123R requires recognition of the cost of
employee services received in exchange for an award of equity instruments in the
financial statements over the period that the employee is required to perform
services in exchange for the award. SFAS No. 123R also requires measurement of
the cost of employee services received in exchange for an award based on the
grant date fair value of the award. The Company adopted SFAS No. 123R using the
modified prospective method. Under this application, the Company is required to
record compensation expense for all awards granted after the date of adoption
and for the unvested portion of previously granted awards that remain
outstanding at the date of adoption.


F-12





HENRY
BROS. ELECTRONICS, INC. AND SUBSIDIARIES


Notes
to the Consolidated Financial Statements (continued)




(q)   Warranty




The
Company offers warranties on all products, including parts and labor that ranges
from one to three years, depending upon the product. For products made by
others, the Company passes along the manufacturer’s warranty to the end
user.  For the years ended December 31, 2008, 2007 and 2006, warranty
expense was $40,155, $44,868 and $34,490, respectively.




(r)   Net
Earnings (Loss) Per Share




The
computation of basic earnings (loss) per share is based upon the weighted
average number of shares of common stock outstanding during the period. The
computation of diluted loss per share excludes the dilutive effects of common
stock equivalents such as options and warrants. Potentially dilutive securities
are not included in loss per share for the years ended December 31, 2007 and
2006 as their inclusion would be antidilutive.





The
following securities were not included in the computation of diluted net loss
per share as their effect would have been anti-dilutive:





December 31,2007
                    
                    
                    2006Options
      to purchase common stock
                    
                    
                    50,834
                    
                    
                    
                    1,149Shares
      issued in connection with the acquisition of Securus Inc., held in
      escrow
                    
                    
                    150,001
                    
                    
                    
                    150,001




(s)   Segment
Information




FASB
issued Statement of Financial Accounting Standards No. 131, “Disclosure about Segments of an
Enterprise and Related Information” (“Statement 131”), that establish
standards for the reporting by public business enterprises of financial and
descriptive information about reportable operating segments in annual financial
statements and interim financial reports issued to shareholders. The Company has
identified two operating segments in which it operates; Security Systems
Integration (“Integration”) and Specialty Products and services (“Specialty”).
The Integration segment provides design, installation and support services for a
wide variety of security, communications and control systems.  The
Company specializes in turn-key systems that integrate many different
technologies.  Systems are customized to meet the specific needs of
its customers. The Specialty Products and Services segment (“Specialty”)
includes the Company’s emergency preparedness planning programs business and its
wireless business specializes in designing, manufacturing and maintaining
wireless communications equipment used to enhance and extend emergency radio
frequency services and cellular communication for both fixed and mobile
applications.


F-13


HENRY
BROS. ELECTRONICS, INC. AND SUBSIDIARIES


Notes
to the Consolidated Financial Statements (continued)




Each of
the Company’s segments market nationwide with an emphasis in the
Arizona,  California, Colorado, Maryland, New Jersey, New York, Texas
and Virginia metropolitan areas. Customers are primarily medium and large
businesses and governmental agencies. The Company derives a majority of its
revenues from project installations and, to a smaller extent, maintenance
service revenue.




(t)   Recent
Accounting Pronouncements





In
October 2008, the FASB issued FSP No. 157-3.  “Determining the Fair
Value of a Financial Asset When the Market for That Asset Is Not Active” ("FSP
157-3”).  FSP 157-3 clarifies the application of SFAS 157 in a market
that is not active and provides an example to illustrate key considerations in
determining the fair value of a financial asset when the market for that
financial asset is not active.  FSP 157-3 was effective for the
Company on September 30, 2008 for all financial assets and liabilities
recognized or disclosed at fair value in our Consolidated Financial Statements
on a recurring basis (or at least annually).





In May
2008, the FASB issued SFAS No. 162.  The Hierarchy of Generally
Accepted Accounting Principles.  The statement is intended to improve
financial reporting by identifying a consistent hierarchy for selecting
accounting principles to be used in preparing financial statements that are
presented in conformity with GAAP.  Prior to the issuance of SFAS No.
162, GAAP hierarchy was defined in the American Institute of Certified Public
Accountants (“AICPA”) Statement on Auditing Standards (SAS) No.
69.  “The Meaning of Present Fairly in Conformity With Generally
Accepted Accounting Principles.”  Unlike SAS No. 69, SFAS No. 162 is
directed to the entity rather than the auditor.  Statement No. 162 is
effective 60 days following the SEC’s approval of the Public Company Accounting
Oversight Board Auditing amendments to AU Section 411.  The Meaning of
Present Fairly in Conformity with Generally Accepted Accounting Principles, SFAS
No. 162 is not expected to have any material impact on the Company’s results of
operations, financial condition or liquidity.





Effective
January 1, 2008, the Company adopted SFAS No. 157. “Fair Value
Measurements”.  In February 2008, the Financial Accounting Standards
Board (“FASB”) issued FASB Staff Position No. FAS 157-2.  “Effective
Date of FASB Statement No. 157”, which provides a one year deferral of the
effective date of SFAS No. 157 for non-financial assets and non-financial
liabilities, except those that are recognized or disclosed in the financial
statements at fair value at least annually.  Therefore, the Company
has adopted the provisions of SFAS No. 157 with respect to its financial assets
and liabilities only.  SFAS No. 157 defines fair value, establishes a
framework for measuring fair value under generally accepted accounting
principles and enhances disclosures about fair value
measurements.  Fair value is defined under SFAS No. 157 as the
exchange price that would be received for an asset or paid to transfer a
liability (an exit price) in the principal or most advantageous market for the
asset or liability in an orderly transaction between market participants on the
measurement date.  Valuation techniques used to measure fair value
under SFAS No. 157 must maximize the use of observable inputs and minimize the
use of unobservable inputs.  The standard describes a fair value
hierarchy based on three levels of inputs, of which the first two are considered
observable and the last unobservable, that may be used to measure fair
value.


F-14




HENRY
BROS. ELECTRONICS, INC. AND SUBSIDIARIES


Notes
to the Consolidated Financial Statements (continued)





The
adoption of this Statement did not have a material impact on the Company’s
consolidated results of operations and financial condition.





In
December 2007, the FASB issued SFAS No. 141 (revised 2007), “Business
Combinations”, or SFAS No. 141R.  SFAS No. 141R replaces SFAS No.
141.  This Statement establishes principles and requirements for how
an acquirer recognizes and measures in its financial statements the identifiable
assets acquired, the liabilities assumed, any non-controlling interest in the
acquiree and the goodwill acquired.  This Statement also establishes
disclosure requirements which will enable users to evaluate the nature and
financial effects of the business combination.  This Statement is
effective for business combinations for which the acquisition date is on or
after the beginning of the first annual reporting period beginning on or after
December 15, 2008.  This Statement will have an impact on future
acquisitions.





In
December 2007, the FASB issued SFAS No. 160.  “Noncontrolling
Interests in Consolidated Financial Statements-an Amendment of Accounting
Research Bulletin No. 51. “ SFAS No. 160 establishes accounting and reporting
standards for ownership interests in subsidiaries held by parties other than the
parent, the amount of consolidated net income attributable to the parent and to
the noncontrolling interest, changes in parent’s ownership interest and the
valuation of retained noncontrolling equity investments when a subsidiary is
deconsolidated.  This Statement also establishes reporting
requirements that provide sufficient disclosures that clearly identify and
distinguish between the interests of the parent and the interests of the
noncontrolling owners.  This Statement is effective for fiscal years
and interim periods within those fiscal years, beginning on or after December
15, 2008.  The Company does not expect the adoption of this Statement
to have a material impact, if any, on the Company’s consolidated financial
statements.


F-15


HENRY
BROS. ELECTRONICS, INC. AND SUBSIDIARIES


Notes
to the Consolidated Financial Statements (continued)





2.         ACCOUNTS
RECEIVABLE




Accounts
receivable consisted of the following:




December
      31,2008
                        
                        
                        2007Completed
      contracts, including retentions
                        
                        $
                        2,829,701
                        
                        
                        $
                        2,665,882Contracts
      in progress:
                        
                        
                        16,135,671
                        
                        
                        
                        11,451,26418,965,372
                        
                        
                        
                        14,117,146Less:
      Allowance for doubtful accounts
                        
                        
                        801,306
                        
                        
                        
                        810,588$
                        18,164,066
                        
                        
                        $
                        13,306,558




At December 31, 2008 and 2007,
the largest accounts receivable from any one customer represented 10.1% and
14.8% of the net accounts receivable, respectively.


F-16


HENRY
BROS. ELECTRONICS, INC. AND SUBSIDIARIES


Notes
to the Consolidated Financial Statements (continued)




3.         COSTS
AND BILLINGS ON UNCOMPLETED CONTRACTS




Costs and
billing on uncompleted contracts consisted of the following:




December 31,2008
                    
                    
                    2007Cost
      incurred on uncompleted contracts
                    
                    $
                    68,235,896
                    
                    
                    $
                    43,011,153Billings
      on uncompleted contracts
                    
                    
                    64,730,546
                    
                    
                    
                    41,393,116$
                    3,505,350
                    
                    
                    $
                    1,618,037





Included
in accompanying Balance Sheets under the following captions:





December 31,2008
                    
                    
                    2007Costs
      in excess of billings and estimated profits
                    
                    $
                    5,512,101
                    
                    
                    $
                    3,195,039Billings
      in excess of costs and estimated profits
                    
                    
                    2,006,751
                    
                    
                    
                    1,577,002$
                    3,505,350
                    
                    
                    $
                    1,618,037






F-17




HENRY
BROS. ELECTRONICS, INC. AND SUBSIDIARIES
 Notes
to the Consolidated Financial Statements




4.           INVENTORY




Inventories
consisted of the following:





December 31,2008
                    
                    
                    2007Component
      parts
                    
                    $
                    166,254
                    
                    
                    $
                    194,669Finished
      goods
                    
                    
                    1,810,762
                    
                    
                    
                    1,861,8011,977,016
                    
                    
                    
                    2,056,470Less:
      Valuation allowance
                    
                    
                    (775,539
                    )
                    
                    
                    (595,539
                    )Net
      inventory
                    
                    $
                    1,201,477
                    
                    
                    $
                    1,460,931




5.           PROPERTY
AND EQUIPMENT




Property
and equipment consisted of the following:





December 31,2008
                    
                    
                    2007Office
      equipment
                    
                    $
                    518,156
                    
                    
                    $
                    468,046Demo
      and testing equipment
                    
                    
                    330,403
                    
                    
                    
                    144,376Automotive
      equipment
                    
                    
                    2,114,458
                    
                    
                    
                    1,797,947Computer
      equipment
                    
                    
                    1,669,172
                    
                    
                    
                    1,420,511Machinery
      and equipment
                    
                    
                    586,011
                    
                    
                    
                    618,728Leasehold
      improvements
                    
                    
                    396,551
                    
                    
                    
                    367,6865,614,751
                    
                    
                    
                    4,817,294Less:  Accumulated
      depreciation
                    
                    
                    (2,993,961
                    )
                    
                    
                    (2,408,654
                    )$
                    2,620,790
                    
                    
                    $
                    2,408,640




Depreciation expense was $673,856,
$689,884 and $515,972 for the years ended December 31, 2008, 2007 and 2006,
respectively.


F-18


HENRY
BROS. ELECTRONICS, INC. AND SUBSIDIARIES


Notes
to the Consolidated Financial Statements (continued)





Equipment
under capital leases included in Property and Equipment are as
follows:





December 31,2008
                  
                  
                  2007Automotive
      equipment
                  
                  $
                  1,187,543
                  
                  
                  $
                  871,032Less:
      Accumulated depreciation
                  
                  
                  (420,249
                  )
                  
                  
                  (176,115
                  )$
                  767,294
                  
                  
                  $
                  694,917




6.           GOODWILL





Goodwill
consisted of the following:


December 312008
                    
                    
                    2007National
      Safe of California, Inc.
                    
                    $
                    483,753
                    
                    
                    $
                    483,753Photo
      Scan Systems, Inc.
                    
                    
                    472,475
                    
                    
                    
                    472,475Henry
      Bros. Electronics, LLC (Arizona)
                    
                    
                    317,114
                    
                    
                    
                    317,114Airolite
      Communications, Inc.
                    
                    
                    250,034
                    
                    
                    
                    250,034Securus,
      Inc.
                    
                    
                    971,210
                    
                    
                    
                    971,210CIS
      Security Systems Corp.
                    
                    
                    1,059,200
                    
                    
                    
                    846,150Southwest
      Securityscan, Inc.
                    
                    
                    38,294
                    
                    
                    
                    38,294$
                    3,592,080
                    
                    
                    $
                    3,379,030




In 2008
and 2007, no charges to operations resulted from management’s goodwill
impairment evaluation.  However, based upon the Company’s 2006
goodwill evaluation under the requirements of FAS 142, the Company took a charge
to operations of $1.2 million (or $.21 per diluted share) associated with
goodwill impairment associated with our California banking vertical market
(National Safe of California).


F-19


HENRY
BROS. ELECTRONICS, INC. AND SUBSIDIARIES


Notes
to the Consolidated Financial Statements (continued)




7.           INTANGIBLE
ASSETS


Intangible
assets consist of the following:





Amortizable IntangiblesAcquired
                        
                        
                        
                        
                        
                        Covenant
                        
                        
                        
                        
                        
                        TotalCustomer
                        
                        
                        Service
                        
                        
                        Not to
                        
                        
                        Trade
                        
                        
                        Amortizable
                        
                        
                        Trade
                        
                        
                        TotalList
                        
                        
                        Rights
                        
                        
                        Compete
                        
                        
                        Name
                        
                        
                        Intangibles
                        
                        
                        Name
                        
                        
                        IntangiblesGross
      carrying value:December
      31, 2006
                        
                        $
                        959,998
                        
                        
                        $
                        436,649
                        
                        
                        $
                        287,773
                        
                        
                        $
                        80,000
                        
                        
                        $
                        1,764,420
                        
                        
                        $
                        315,114
                        
                        
                        $
                        2,079,534Additions
      (deletions)
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        -Impairment
      charge
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        (43,999
                        )
                        
                        
                        (43,999
                        )
                        
                        
                        -
                        
                        
                        
                        (43,999
                        )December
      31, 2007
                        
                        
                        959,998
                        
                        
                        
                        436,649
                        
                        
                        
                        287,773
                        
                        
                        
                        36,001
                        
                        
                        
                        1,720,421
                        
                        
                        
                        315,114
                        
                        
                        
                        2,035,535Additions
      (deletions)
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        -Impairment
      charge
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        -December
      31, 2008
                        
                        
                        959,998
                        
                        
                        
                        436,649
                        
                        
                        
                        287,773
                        
                        
                        
                        36,001
                        
                        
                        
                        1,720,421
                        
                        
                        
                        315,114
                        
                        
                        
                        2,035,535Accumulated
      amortization:December
      31, 2006
                        
                        
                        (172,851
                        )
                        
                        
                        (188,464
                        )
                        
                        
                        (261,805
                        )
                        
                        
                        (20,000
                        )
                        
                        
                        (643,120
                        )
                        
                        
                        -
                        
                        
                        
                        (643,120
                        )2007
      Amortization
                        
                        
                        (118,702
                        )
                        
                        
                        (48,197
                        )
                        
                        
                        (25,968
                        )
                        
                        
                        (16,001
                        )
                        
                        
                        (208,868
                        )
                        
                        
                        -
                        
                        
                        
                        (208,868
                        )Impairment
      charge
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        
                        
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        -December
      31, 2007
                        
                        
                        (291,553
                        )
                        
                        
                        (236,661
                        )
                        
                        
                        (287,773
                        )
                        
                        
                        (36,001
                        )
                        
                        
                        (851,988
                        )
                        
                        
                        -
                        
                        
                        
                        (851,988
                        )2008
      Amortization
                        
                        
                        (118,690
                        )
                        
                        
                        (48,193
                        )
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        (166,882
                        )
                        
                        
                        
                        
                        
                        
                        (166,882
                        )Impairment
      charge
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        -December
      31, 2008
                        
                        
                        (410,243
                        )
                        
                        
                        (284,854
                        )
                        
                        
                        (287,773
                        )
                        
                        
                        (36,001
                        )
                        
                        
                        (1,018,870
                        )
                        
                        
                        -
                        
                        
                        
                        (1,018,870
                        )Net
      carrying value
                        
                        $
                        549,755
                        
                        
                        $
                        151,795
                        
                        
                        $
                        -
                        
                        
                        $
                        -
                        
                        
                        $
                        701,551
                        
                        
                        $
                        315,114
                        
                        
                        $
                        1,016,665Weighted
      average life in years
                        
                        
                        11
                        
                        
                        
                        6
                        
                        
                        
                        3
                        
                        
                        
                        5
                        
                        
                        
                        6




Amortization
expense was $166,882, $208,868, and $183,587 for the years ended December 31,
2008, 2007 and 2006, respectively.





Future
amortization expense for the next five years is as follows:





December 312009
                    
                    
                    166,8992010
                    
                    
                    164,0312011
                    
                    
                    120,0892012
                    
                    
                    120,0892013
                    
                    
                    94,425




F-20


HENRY
BROS. ELECTRONICS, INC. AND SUBSIDIARIES


Notes
to the Consolidated Financial Statements (continued)




8.           LONG-TERM
DEBT




On June
30, 2005, the Company entered into a loan agreement (the “Loan Agreement”) with
TD Bank, N.A.  (“TD Bank”, formerly known as TD Banknorth, N.A., and
Hudson United Bank) pursuant to which TD Bank extended a $4 million two-year
credit facility (the “Revolving Loan”), to the Company and refinanced $1 million
of existing indebtedness to TD Bank into a five year term loan (the “Term
Loan”).




On
October 6, 2008, the Company executed its fourth amendment to the Revolving Loan
with TD Bank, increasing its line of credit from $4 million to $8 million. The
term of the agreement has been extended to June 30, 2010.  Advances
under the Revolving Loan may be used to finance working capital and
acquisitions. Interest is paid monthly in arrears at TD Bank’s prime rate (3.25%
at December 31, 2008 and 7.25% at December 31, 2007).  TD Bank has a
first priority security interest on the Company’s accounts receivable and
inventory.




The Term
Loan provides for the payment of sixty equal monthly installments of principal
and interest in the amount of $19,730 commencing July 30, 2005 and continuing
through June 30, 2010. Interest under the Term Loan is 6.75%.




The
Company is required to maintain certain financial and reporting covenants and is
restricted from paying dividends under the terms of the Loan
Agreement.




Long-term
debt included the following balances:


F-21


HENRY
BROS. ELECTRONICS, INC. AND SUBSIDIARIES


Notes
to the Consolidated Financial Statements (continued)




December
      31,2008
                    
                    
                    2007Term
      loan at 6.75% interest payable in monthly installmentsof $19,730 thru
      June 30, 2010
                    
                    $
                    103,410
                    
                    
                    $
                    324,520Revolving
      line at the prime rate of interest, payable in monthlyinstallments
      thru June 30, 2010
                    
                    
                    4,335,898
                    
                    
                    
                    3,635,897Corporate
      insurance  financed at 7.85% in monthly installmentsthru
      October 1, 2009
                    
                    
                    268,992
                    
                    
                    
                    172,807Capitilzed
      lease obligations due in monthly installments,with interest ranging
      from 6.4% to 12.7%
                    
                    
                    777,104
                    
                    
                    
                    595,587Other
      miscellaneous debt
                    
                    
                    -
                    
                    
                    
                    7,5735,485,404
                    
                    
                    
                    4,736,384Less:
      Current Portion
                    
                    
                    (629,742
                    )
                    
                    
                    (634,948
                    )Revolving
      loan
                    
                    
                    -
                    
                    
                    
                    (3,635,897
                    )$
                    4,855,662
                    
                    
                    $
                    465,539





The
weighted average prime interest rate for the years ended December 31, 2008, 2007
and 2006 were 4.8%, 7.9% and 7.9%, respectively.




Aggregate
maturities of all outstanding debt at December 31, 2008:


2009
                            
                            $
                            629,7422010
                            
                            
                            4,545,7922011
                            
                            
                            170,6452012
                            
                            
                            139,225$
                            5,485,404




F-22


HENRY
BROS. ELECTRONICS, INC. AND SUBSIDIARIES


Notes
to the Consolidated Financial Statements (continued)





Obligations
Under Capital Leases:





Future
minimum lease payments for assets under capital leases outstanding at December
31, 2008:





2009
                        
                        $
                        358,2992010
                        
                        
                        297,0242011
                        
                        
                        197,9282012
                        
                        
                        86,083939,334Less:
      Amount representing interest
                        
                        
                        (162,230
                        )Present
      value of net minimum lease payments
                        
                        $
                        777,104





9.           INCOME
TAXES




The tax
provision consists of the following:




Years
      Ended December 31,2008
                                    
                                    
                                    2007
                                    
                                    
                                    2006Federal:Current
                                    
                                    $
                                    821,398
                                    
                                    
                                    $
                                    5,869
                                    
                                    
                                    $
                                    (130,790
                                    )Deferred
                                    
                                    
                                    138,507
                                    
                                    
                                    
                                    24,465
                                    
                                    
                                    
                                    (318,002
                                    )959,905
                                    
                                    
                                    
                                    30,334
                                    
                                    
                                    
                                    (448,792
                                    )State:Current
                                    
                                    
                                    464,027
                                    
                                    
                                    
                                    63,934
                                    
                                    
                                    
                                    94,492Deferred
                                    
                                    
                                    (49,612
                                    )
                                    
                                    
                                    (30,987
                                    )
                                    
                                    
                                    (68,005
                                    )414,415
                                    
                                    
                                    
                                    32,947
                                    
                                    
                                    
                                    26,487$
                                    1,374,320
                                    
                                    
                                    $
                                    63,281
                                    
                                    
                                    $
                                    (422,305
                                    )




F-23


HENRY
BROS. ELECTRONICS, INC. AND SUBSIDIARIES


Notes
to the Consolidated Financial Statements (continued)





The
components of the deferred tax asset (liability) as of December 31, 2008 and
2007 are as follows:





2008
                          
                          
                          2007Deferred Tax
      Asset:Allowance
      for doubtful accounts
                          
                          $
                          331,330
                          
                          
                          $
                          313,385Accrued
      absences
                          
                          
                          237,991
                          
                          
                          
                          220,139Accrued
      warranty
                          
                          
                          219,514
                          
                          
                          
                          188,922Bonus
      accrual
                          
                          
                          276,120
                          
                          
                          
                          -Inventory
                          
                          
                          321,479
                          
                          
                          
                          230,855Deferred
      rent
                          
                          
                          43,436
                          
                          
                          
                          20,622Stock
      compensation
                          
                          
                          93,542
                          
                          
                          
                          64,217Unearned
      maintenance
                          
                          
                          -
                          
                          
                          
                          40,131Net
      operating loss carry forward
                          
                          
                          465,592
                          
                          
                          
                          592,281Total
      deferred tax asset
                          
                          $
                          1,989,004
                          
                          
                          $
                          1,670,552Deferred Tax Liability:Deferred
      revenue
                          
                          $
                          (66,561
                          )
                          
                          $
                          (274,490
                          )Depreciation
                          
                          
                          (503,838
                          )
                          
                          
                          (23,646
                          )Goodwill
                          
                          
                          (83,228
                          )
                          
                          
                          -Intangible
      assets
                          
                          
                          (378,485
                          )
                          
                          
                          (326,629
                          )Total
      deferred tax liability
                          
                          $
                          (1,032,112
                          )
                          
                          $
                          (624,765
                          )Net
      deferred tax asset
                          
                          $
                          956,892
                          
                          
                          $
                          1,045,787Net
      short-term asset
                          
                          $
                          1,363,309
                          
                          
                          $
                          739,563Net
      long-term (liability) asset
                          
                          $
                          (406,417
                          )
                          
                          $
                          306,224




For the year ended
December 31, 2008, the Company utilized net operating loss carryforwards of
approximately $416,000.  Additionally, for the year ended December 31, 2008
the Company utilized $67,800 NOL’s from acquired
subsidiaries.  Therefore, there remains approximately $1,007,000 of
acquired NOL’s which are subject to various expiration dates.  The acquired
NOL’s are also subject to limitations in their use based on the value of
the acquired company at the date of the change of ownership.




The
Company also has State NOL’s of approximately $5.9 million for which a tax
benefit of approximately $118,000 has been recorded in the schedule above. The
state tax benefit is net of approximately  $319,000 of a valuation
allowance since the Company does not believe it is more likely than not they
will be able to utilize all State NOL’s in the near future.


F-24


HENRY
BROS. ELECTRONICS, INC. AND SUBSIDIARIES


Notes
to the Consolidated Financial Statements (continued)




The
provision for income taxes reported for the years ended December 31, differs
from that computed using the United States statutory tax rate of 34% due to the
following:




Years
      Ended December 31,2008
                  
                  
                  2007
                  
                  
                  2006Provision
      (benefit) for taxes using statutory rate
                  
                  $
                  996,906
                  
                  
                  $
                  (81,608
                  )
                  
                  $
                  (918,977
                  )State
      taxes, net of federal tax benefit
                  
                  
                  218,412
                  
                  
                  
                  10,823
                  
                  
                  
                  17,481FIN
      48 state exposure - penalty and interest
                  
                  
                  9,224
                  
                  
                  
                  10,926
                  
                  
                  
                  -FIN
      48 state exposure - net of federal tax benefit on interest
                  
                  
                  (1,458
                  )
                  
                  
                  (2,387
                  )
                  
                  
                  -State
      taxes, net of federal tax benefit-change in estimated rate
                  
                  
                  -
                  
                  
                  
                  1,841
                  
                  
                  
                  -Change
      in prior year deferred tax estimates - State
                  
                  
                  6,880
                  
                  
                  
                  5,280
                  
                  
                  
                  -Change
      in prior year deferred tax estimates - Federal
                  
                  
                  31,397
                  
                  
                  
                  23,076
                  
                  
                  
                  -Permanent
      differences:Goodwill
      impairment
                  
                  
                  -
                  
                  
                  
                  14,960
                  
                  
                  
                  404,940Goodwill
      tax amortization
                  
                  
                  -
                  
                  
                  
                  (8,651
                  )
                  
                  
                  -Qualified
      stock based compensation
                  
                  
                  91,602
                  
                  
                  
                  66,585
                  
                  
                  
                  58,501Other
                  
                  
                  21,357
                  
                  
                  
                  22,435
                  
                  
                  
                  15,750Provision
      (benefit) for income taxes
                  
                  $
                  1,374,320
                  
                  
                  $
                  63,280
                  
                  
                  $
                  (422,305
                  )





The
Company adopted the provisions of FASB Interpretation No. 48, “Accounting for
Uncertainty in Income Taxes – an interpretation of FASB Statement No. 109” as of
January 1, 2007.  As a result of the implementation of FIN 48, the
Company recognized an approximate $38,561 increase in the liability for
unrecognized tax benefits and a decrease to the January 1, 2007 balance of
retained earnings.  There were no additional tax liabilities
identified in 2008, except for the potential additional interest on those
liabilities recognized at December 31, 2007.   As of December 31,
2008 and 2007, the Company had $54,866 and $47,100, respectively, of
unrecognized income tax benefits, all of which would affect the Company’s
effective tax rate if recognized.





A
reconciliation of the beginning and ending balances of the total amounts of
gross unrecognized tax benefits as of and during the years ended December 31,
2008 and 2007 follows:


F-25


HENRY
BROS. ELECTRONICS, INC. AND SUBSIDIARIES


Notes
to the Consolidated Financial Statements (continued)





Years
      Ended December 31,2008
                    
                    
                    2007Gross
      unrecognized income tax benefits beginning of year
                    
                    $
                    47,100
                    
                    
                    $
                    38,561Additions
      for tax postions of the current year
                    
                    
                    
                    
                    
                    
                    -Additions
      for the tax positions of prior years
                    
                    
                    7,766
                    
                    
                    
                    8,539Gross
      unrecognized income tax benefits at end of year
                    
                    $
                    54,866
                    
                    
                    $
                    47,100





The
Company has analyzed filing positions in all of the federal and state
jurisdictions where it is required to file income tax returns, as well as all
open tax years in these jurisdictions. The Company has identified its federal
consolidated tax return and its state tax returns in New York, New Jersey and
California as major tax jurisdictions, as defined. The only periods subject to
examination for the Company’s federal return are the 2005 through 2007 tax
years. The periods subject to examination for the Company’s state returns in New
York, New Jersey and California are years 2005 through 2007. The Company
recognizes potential accrued interest and penalties related to unrecognized tax
benefits in income tax expense.  At December 31, 2008 and 2007, the Company
recognized approximately $9,224 and $12,092, respectively, in potential interest
and penalties associated with uncertain tax positions.  The change in
the unrecognized tax benefit within the next 12 months is not expected to be
material to the financial statements.




10.           INCENTIVE
STOCK OPTION PLAN




The
Company has a Stock Option Plan (the “1999 Plan”), for the benefit of employees
of the Company, under which options to purchase up to a maximum of 500,000
shares of its common stock may be issued. The maximum term of any option is ten
years, and the option price per share may not be less than the fair market value
of the Company’s shares at the date the option is granted.  However,
options granted to persons owning more than 10% of the voting shares will have a
term not to exceed five years, and the option price will not be less than 110%
of fair market value.  Options granted to an optionee will usually
vest 33 1/3% annually, beginning on the first anniversary of the option grant,
subject to the discretion of the Compensation Committee of the Board of
Directors.  The 1999 Plan will terminate on December 23, 2009 or on
such earlier date as the Board of Directors may determine. Any option
outstanding at the termination date will remain outstanding until it expires or
is exercised in full, whichever occurs first.




On May
10, 2002, the Board of Directors approved the 2002 Incentive Stock Option Plan
(the “2002 Plan”), which the shareholders subsequently approved on October 28,
2002.  On August 2, 2006, the Board of Directors approved the 2006
Stock Option Plan (the 2006 Plan”), which the shareholders subsequently approved
on November 1, 2006.  On November 8, 2007, the Board of Directors
approved the 2007 Stock Option Plan (the “2007 Plan”), which the shareholders
subsequently approved on November 12, 2007.




F-26


HENRY
BROS. ELECTRONICS, INC. AND SUBSIDIARIES


Notes
to the Consolidated Financial Statements (continued)




The 2002,
2006 and 2007 Plans (collectively “the Plans”) allow the granting of incentive
stock options or non-qualified stock options to the Company’s employees,
directors and consultants, up to a maximum of 230,000, 250,000 and 250,000
shares of its common stock for the 2002, 2006 and 2007 Plans,
respectively.  All stock options granted under the Plans will be
exercisable at such time or times and in such installments, if any, as our
Compensation Committee or the Board may determine and expire no more than ten
years from the date of grant.  The 2002 Plan will terminate on May 9,
2012, the 2006 Plan will terminate on August 2, 2016, and the 2007 Plan will
terminate on November 8, 2017, or such earlier date as the Board of Directors
may determine.  Any option outstanding at the termination date will
remain outstanding until it expires or is exercised in full, whichever occurs
first.  The exercise price of the stock option will be at fair market
value.  Vesting is at the discretion of the Compensation
Committee.  The Plans allow for immediate vesting if there is a change
of control. As of December 31, 2008, in total, 245,485 options are available for
future grant under the 1999, 2002, 2006 and 2007 Plans.  The Company
charged $281,938, $227,839 and $189,593 to operations for the years ended
December 31, 2008, 2007 and 2006, respectively, for the fair value of those
options granted subsequent to January 1, 2003.




A summary
of stock option activity under the Plan’s follows:




Number of Outstanding Shares
      Exercisable
                    
                    
                    Weighted Average Exercise
    PriceOutstanding
                    
                    
                    Exercisable
                    
                    
                    Outstanding
                    
                    
                    ExercisableDecember
      31, 2005
                    
                    
                    471,375
                    
                    
                    
                    240,375
                    
                    
                    
                    5.95
                    
                    
                    
                    6.70Granted
      at market
                    
                    
                    256,000
                    
                    
                    
                    
                    
                    
                    
                    3.90Exercised
                    
                    
                    (6,666
                    )
                    
                    
                    
                    
                    
                    
                    4.65Terminated
                    
                    
                    (50,109
                    )
                    
                    
                    
                    
                    
                    
                    5.65December
      31, 2006
                    
                    
                    670,600
                    
                    
                    
                    290,435
                    
                    
                    
                    5.17
                    
                    
                    
                    6.37Granted
      at market
                    
                    
                    309,800
                    
                    
                    
                    
                    
                    
                    
                    4.32Exercised
                    
                    
                    -Terminated
                    
                    
                    (63,500
                    )
                    
                    
                    
                    
                    
                    
                    5.39December
      31, 2007
                    
                    
                    916,900
                    
                    
                    
                    354,620
                    
                    
                    
                    4.87
                    
                    
                    
                    5.68Granted
      at market
                    
                    
                    128,000
                    
                    
                    
                    
                    
                    
                    
                    5.56Exercised
                    
                    
                    (21,218
                    )
                    
                    
                    
                    
                    
                    
                    5.07Terminated
                    
                    
                    (39,167
                    )
                    
                    
                    
                    
                    
                    
                    5.03December
      31, 2008
                    
                    
                    984,515
                    
                    
                    
                    496,856
                    
                    
                    
                    4.97
                    
                    
                    
                    5.44




F-27


HENRY
BROS. ELECTRONICS, INC. AND SUBSIDIARIES


Notes
to the Consolidated Financial Statements (continued)




A
summary of the status of the Company’s nonvested shares as of December 31, 2008
and changes during the year ended December 31, 2008 is presented
below:




Grant
      DateNonvested
      Shares
                      
                      Shares
                      
                      
                      Fair
      ValueNonvested
      at January 1, 2007
                      
                      
                      380,165
                      
                      
                      $
                      1.67Granted
      in 2007
                      
                      
                      309,800
                      
                      
                      
                      2.16Vested
      in 2007
                      
                      
                      (84,215
                      )
                      
                      
                      1.75Forfeited
      (nonvested)
                      
                      
                      (43,470
                      )
                      
                      
                      2.09Nonvested
      at December 31, 2007
                      
                      
                      562,280
                      
                      
                      $
                      1.91Granted
      in 2008
                      
                      
                      128,000
                      
                      
                      
                      2.56Vested
      in 2008
                      
                      
                      (237,918
                      )
                      
                      
                      1.75Forfeited
      (nonvested)
                      
                      
                      (35,297
                      )
                      
                      
                      2.03Nonvested
      at December 31,2008
                      
                      
                      417,065
                      
                      
                      
                      2.00




As of
December 31, 2008, there was $661,158 of total unrecognized compensation cost
related to nonvested share-based compensation arrangements under the
Plan.  That cost is expected to be recognized over a weighted-average
period of 4.4 years.





The
aggregate fair value of options outstanding at December 31, 2008, was $2,004,649
and had a weighted-average remaining contractual life of 3.6 years. Of these
options outstanding, 496,856 were exercisable and 481,106 were expected to
vest, and had an aggregate fair value of $903,109 with a weighted-average
remaining contractual life of 4.8 years. The following table provides
information related to options exercised during the years ended December
31:





2008
                  
                  
                  2007
                  
                  
                  2006Total
      intrinsic value
                  
                  $
                  146,701
                  
                  
                  
                  -
                  
                  
                  
                  39,596Cash
      received upon exercise
                  
                  
                  119,258
                  
                  
                  
                  -
                  
                  
                  
                  30,997Related
      tax benefits realized
                  
                  
                  11,391
                  
                  
                  
                  -
                  
                  
                  
                  2,924





Stock
based compensation is being amortized over the vesting period of up to five
years. The fair value of the Company’s stock option awards was estimated
assuming no expected dividends and the following weighted-average assumptions
for the years ended December 31:


F-28


HENRY
BROS. ELECTRONICS, INC. AND SUBSIDIARIES


Notes
to the Consolidated Financial Statements (continued)




2008
                  
                  
                  2007
                  
                  
                  2006Expected
      Life (years)
                  
                  
                  4.3
                  
                  
                  
                  4.0
                  
                  
                  
                  3.0Expected
      volatility
                  
                  
                  42.9
                  %
                  
                  
                  51.9
                  %
                  
                  
                  36.8
                  %Risk-free
      interest rates
                  
                  
                  2.9
                  %
                  
                  
                  4.1
                  %
                  
                  
                  4.2
                  %Dividend
      yield
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -Weighted-average
      grant-date fair value
                  
                  $
                  2.56
                  
                  
                  $
                  2.16
                  
                  
                  $
                  1.44





The
assumptions above are based on multiple factors, including historical exercise
patterns of employees with respect to exercise and post-vesting employment
termination behaviors, expected future exercise patterns for these employees and
the historical volatility of our stock price.  The expected term of
options granted is derived using company-specific, historical exercise
information and represents the period of time that the options granted are
expected to be outstanding.  The risk-free interest rate for periods
within the contractual life of the option is based on the U.S. Treasury yield
curve in effect at the time of the grant.




11.           STOCKHOLDERS’
EQUITY




In
connection with the acquisition of all the capital stock of CIS Security Systems
Corp. (“CIS”) on October 2, 2006, the Company issued an aggregate of 20,000
shares of its common stock, valued at $67,200.  The Company issued an
additional 30,000 shares of its restricted common stock in 2007 and 2008 to
CIS’s selling shareholder after CIS met certain performance targets. The
issuance of the shares of restricted stock in connection with the aforementioned
acquisition was made in reliance upon the exemption provided in section 4(2) of
the Securities Act of 1933, as amended.  In addition, the selling
shareholder may earn an additional 50,000 shares of the Company’s common stock
if CIS achieves certain performance targets through December, 2011.




In
connection with the acquisition of Securus, Inc. on October 10, 2005, the
Company issued an aggregate of 150,001 shares of its common stock, all of which
are being held in escrow pursuant to the stock purchase escrow agreement between
the Company and the selling shareholders of Securus, Inc. These shares held in
escrow may be earned out through December 31, 2010 based upon the aggregate
value of the earnings before interest and tax (“EBIT”) to
$2,960,000.




The
issuance of the shares of restricted stock, in connection with the
aforementioned acquisition, was made in reliance upon the exemption provided in
section 4(2) of the Securities Act of 1933, as amended.




F-29


HENRY
BROS. ELECTRONICS, INC. AND SUBSIDIARIES


Notes
to the Consolidated Financial Statements (continued)




Holders
of common stock are entitled to one vote for each share held on all matters
submitted for a vote of stockholders and do not have cumulative voting
rights.  Apart from preferences that may be applicable to any shares
of preferred stock outstanding at the time, holders of our common stock are
entitled to receive dividends ratably, if any, as may be declared from time to
time by our board of directors out of funds legally available.  Upon
the liquidation, dissolution or winding up of the Company, the holders of common
stock are entitled to receive ratably the net assets available after the payment
of all liabilities and liquidation preferences on any outstanding preferred
stock.  Holders of common stock have no preemptive, subscription,
redemption or conversion rights, and there are no redemption or sinking fund
provisions applicable to the common stock.




Preferred
Stock – Our board of directors is authorized, without stockholder
approval, to issue up to 2,000,000 shares of preferred stock in one or more
series and to fix the rights, preferences, privileges and restrictions of these
shares, including dividend rights, conversion rights, voting rights, terms of
redemption and liquidation preferences, and to fix the number of shares
constituting any series and the designations of these series.  These
shares may have rights senior to our common stock. The issuance of preferred
stock may have the effect of delaying or preventing a change in control. The
issuance of preferred stock could decrease the amount of earnings and assets
available for distribution to the holders of our common stock or could aversely
affect the rights and powers, including voting rights, of the holders of our
common stock.  At present, we have no plans to issue preferred stock
in the foreseeable future.




Warrants -
In connection with the Company’s private placement of its common stock to
certain qualified institutional investors in July 2004 (as noted above), such
investors were issued warrants to acquire 138,333 shares of common stock at an
exercise price of $7.60 per share, exercisable for a period commencing six
months after the date of issuance through the fifth anniversary of the issuance.
In addition, the Placement Agent was issued warrants to acquire 55,333 shares of
common stock with the same terms as those issued to the institutional investors.
These warrants will expire July 27, 2009.




A total
of 245,485 common shares are reserved for exercise of employee stock options and
warrants as of December 31, 2008.




12.           COMMITMENTS




Leases -
The Company leases its office and warehouse facilities under operating leases
that expire through 2016.  Future minimum rental payments, under
non-cancelable leases as of December 31, 2008, are as follows:


F-30


HENRY
BROS. ELECTRONICS, INC. AND SUBSIDIARIES


Notes
to the Consolidated Financial Statements (continued)




2009
                    
                    $
                    748,7532010
                    
                    
                    661,1582011
                    
                    
                    429,4452012
                    
                    
                    364,9952013
                    
                    
                    263,800Thereafter
                    
                    
                    685,084$
                    3,153,235




Rent
expense under operating leases was $890,778, $754,258 and $663,257 for the years
ended December 31, 2008, 2007 and 2006, respectively.




13.           EMPLOYEE
BENEFIT PLAN




As of
January 1, 2003, the Company sponsored a 401-K plan, including discretionary
profit sharing (the “401-K Plan”). As of September 1, 2003, the Company decided
to discontinue matching employee contributions to the 401-K Plan, but resumed
discretionary matches in 2008. The Company has implemented a match for 2008
whereby the Company matched 25% of employee’s contributions, up to 10% of the
employees salary, with a maximum match of $750.  An expense of $73,879
was recorded for the year ended December 31, 2008 associated with the Company
matching contribution. The Company plans to continue the same discretionary
match in 2009. The Company’s contributions to the employees' accounts vest
equally over three years and the employee contribution to their own account
vests immediately. There were no Company matching contributions to the 401-K
plan during 2007 or 2006.




14.           RELATED
PARTY TRANSACTIONS




Joseph P.
Ritorto, a member of our Board of Directors since January 2002, was co-founder
of First Aviation Services, Inc. (“First Aviation”).  Mr. Ritorto sold
First Aviation to a group led by Goldman Sachs in May 2008. In 2007 and 2006,
the Company had revenues of $546,375 and $678,138 principally associated with an
integrated security systems project with First Aviation.  During the
period in 2008 that the business was owned by Mr. Ritorto, the Company had no
revenues from First Aviation.  There are no outstanding accounts
receivable due from First Aviation at December 31, 2008 related to the period
that the business was owned by Mr. Ritorto.


F-31


HENRY
BROS. ELECTRONICS, INC. AND SUBSIDIARIES


Notes
to the Consolidated Financial Statements (continued)




15.           CONTINGENT
LIABILITIES





In July
2007, an accident occurred in Corona, California involving one of the Company’s
vehicles. The operator of a motorcycle was killed in the accident. In December
2007, his family commenced litigation against the former Company employee who
was driving the vehicle, as well as the Company.  In the fourth
quarter 2008, the case was settled by our insurance carrier.  In January
2009, a motion was filed by our insurance carrier requesting that the
court deem that the settlement was entered into in good faith.  A
court hearing on that motion is scheduled for April 16, 2009.




We know
of no other material litigation or proceeding, pending or threatened, to which
we are or may become a party.




From time
to time, the Company is subject to various claims with respect to matters
arising out of the normal course of business. In management’s opinion, none of
these claims is likely to have a material affect on the Company’s consolidated
financial statements.




16.           SEGMENT
DATA




Selected
information by business segment is presented in the following tables for the
years ended December 31:




For
      the year ended December 31,2008
                          
                          
                          2007
                          
                          
                          2006RevenueIntegration
                          
                          $
                          60,843,182
                          
                          
                          $
                          56,332,837
                          
                          
                          $
                          40,606,101Specialty
                          
                          
                          1,514,284
                          
                          
                          
                          2,147,355
                          
                          
                          
                          2,766,024Inter-segment
                          
                          
                          -
                          
                          
                          
                          (627,976
                          )
                          
                          
                          (1,239,273
                          )Total
      Revenue
                          
                          $
                          62,357,466
                          
                          
                          $
                          57,852,216
                          
                          
                          $
                          42,132,852Operating Profit (Loss)Integration
                          
                          $
                          7,019,073
                          
                          
                          $
                          3,159,353
                          
                          
                          $
                          144,229Specialty
                          
                          
                          (625,431
                          )
                          
                          
                          (544,471
                          )
                          
                          
                          (751,919
                          )Corporate
                          
                          
                          (3,299,100
                          )
                          
                          
                          (2,578,300
                          )
                          
                          
                          (1,989,671
                          )Total
      Operating Profit (Loss)
                          
                          $
                          3,094,542
                          
                          
                          $
                          36,582
                          
                          
                          $
                          (2,597,361
                          )




F-32


HENRY
BROS. ELECTRONICS, INC. AND SUBSIDIARIES


Notes
to the Consolidated Financial Statements (continued)




Selected
balance sheet information by business segment is presented in the following
table as of December 31:




December
      31,2008
                      
                      
                      2007Total Assets:Integration
                      
                      $
                      33,304,890
                      
                      
                      $
                      27,821,570Specialty
                      
                      
                      1,756,730
                      
                      
                      
                      950,000Corporate
                      
                      
                      1,548,488
                      
                      
                      
                      3,560,000Total
      Assets
                      
                      $
                      36,610,108
                      
                      
                      $
                      32,331,570




17.
            ACQUISITIONS




On
October 2, 2006, the Company consummated the acquisition of all the capital
stock of CIS Security Systems Corp. (“CIS”), a privately-held security systems
integrator with offices in Baltimore, Maryland and Newington, Virginia, for an
aggregate purchase price of $1,545,973 ($850,000 in cash to the selling
shareholder, the assumption and subsequent repayment of CIS debt in the amount
of $603,364, the issuance of 20,000 shares of the Company’s $0.01 par value
common stock valued at $67,200 and $25,409 in transaction costs). In addition,
the selling shareholder may earn an additional amount up to $250,000 in cash and
80,000 additional shares of the Company’s common stock if CIS achieves certain
performance targets through December, 2011. As of December 31, 2008, on a
cumulative basis the selling shareholder has earned $117,500 in cash and 30,000
additional shares (valued at $158,050) of the Company’s common stock through the
achievement of certain performance targets, which resulted in the $213,050 and
$62,500 additional goodwill during each of the years ended December 31, 2008 and
2007, respectively.




Established
in 1987, CIS provides design, engineering and installation services for
integrated electronic security systems for both commercial and government
clients in the Washington-Baltimore metropolitan area. CIS also provides
design-build services for large-scale security systems for malls, shopping
centers and stadiums throughout the country.




F-33


HENRY
BROS. ELECTRONICS, INC. AND SUBSIDIARIES


Notes
to the Consolidated Financial Statements (continued)





The
purchase price was allocated to the assets acquired and liabilities assumed
based upon the estimated fair market values as follows:




Cash
      and cash equilivalents
                      
                      $
                      15,721Accounts
      receivable – net
                      
                      
                      794,503Inventory
                      
                      
                      62,522Cost
      in excess of billings
                      
                      
                      47,810Other
      assets
                      
                      
                      14,901Total
      current assets
                      
                      
                      935,457Property
      and equipment - net
                      
                      
                      74,722Amortizable
      intangible assets:Customer
      relationship
                      
                      
                      235,000Deferred
      tax asset
                      
                      
                      265,739Other
      assets
                      
                      
                      8,330Total
      assets
                      
                      
                      1,519,248Accounts
      Payables
                      
                      
                      (504,620
                      )Other
      current liabilities
                      
                      
                      (158,305
                      )Deferred
      tax liability
                      
                      
                      (94,000
                      )Net
      assets acquired
                      
                      $
                      762,323





The
excess purchase price of $846,150 was assigned to goodwill.




On
October 2, 2006, the Company acquired certain assets of Southwest Securityscan,
Inc. (SSI), a privately-held company headquartered in Duncanville, Texas. In
exchange for certain inventory, furniture, equipment, vehicles, customer lists,
customer monitoring contracts and relationships, the Company paid outstanding
SSI indebtedness of $88,014 on behalf of SSI and $6,773 in cash to
SSI.  Established in 1974, SSI provides installation, service and
monitoring of access, surveillance and alarm systems.




Pro forma
information is not required for either the CIS or SSI
acquisition.


F-34


HENRY
BROS. ELECTRONICS, INC. AND SUBSIDIARIES


Notes
to the Consolidated Financial Statements (continued)




18.
QUARTERLY FINANCIAL INFORMATION (UNAUDITED):




Presented
below is a schedule of selected quarterly operating results:





First
      Quarter
                    
                    
                    Second
      Quarter
                    
                    
                    Third
      Quarter
                    
                    
                    Fourth
      QuarterEnded
      March 31
                    
                    
                    Ended
      June 30
                    
                    
                    Ended
      Sept. 30
                    
                    
                    Ended
      Dec. 31 (1)Year Ended December 31,
2008Revenue
                    
                    $
                    15,906,046
                    
                    
                    $
                    15,123,950
                    
                    
                    $
                    12,262,372
                    
                    
                    $
                    19,065,098Gross
      profit (2)
                    
                    
                    3,689,108
                    
                    
                    
                    3,841,951
                    
                    
                    
                    3,612,452
                    
                    
                    
                    4,748,761Net
      income
                    
                    
                    283,957
                    
                    
                    
                    337,261
                    
                    
                    
                    210,782
                    
                    
                    
                    725,756Earnings
      per shareBasic
                    
                    $
                    0.05
                    
                    
                    $
                    0.06
                    
                    
                    $
                    0.04
                    
                    
                    $
                    0.12Diluted
                    
                    
                    0.05
                    
                    
                    
                    0.06
                    
                    
                    
                    0.04
                    
                    
                    
                    0.12Year Ended December 31,
2007Revenue
                    
                    $
                    10,871,301
                    
                    
                    $
                    13,521,198
                    
                    
                    $
                    15,861,239
                    
                    
                    $
                    17,598,478Gross
      profit (2)
                    
                    
                    2,204,018
                    
                    
                    
                    3,393,639
                    
                    
                    
                    3,653,547
                    
                    
                    
                    3,524,886Net
      (loss) income
                    
                    
                    (820,415
                    )
                    
                    
                    150,044
                    
                    
                    
                    328,040
                    
                    
                    
                    39,027(Loss)
      earnings per shareBasic
                    
                    $
                    (0.14
                    )
                    
                    $
                    0.03
                    
                    
                    $
                    0.06
                    
                    
                    $
                    0.01Diluted
                    
                    
                    (0.14
                    )
                    
                    
                    0.03
                    
                    
                    
                    0.05
                    
                    
                    
                    0.01





Earnings
per share are computed independently for each of the quarters presented, on the
basis described in Note 1.  The sum of the quarters may not be equal
to the full year earnings per share amount.





(1) The
Company’s increase in net income is principally the result of an improvement in
the gross profit margin on increased revenue and shift in project mix to higher
margin projects.


(2) The
Company has reclassified certain costs from cost of revenue to selling, general
and administrative expenses.  These changes had no impact on operating
profit or loss.


F-35


HENRY
BROS. ELECTRONICS, INC. AND SUBSIDIARIES




SCHEDULE
II





VALUATION
AND QUALIFYING ACCOUNTS


YEARS
ENDED DECEMBER 31, 2008, 2007, AND 2006





Col.
      A
                    
                    Col.
      B
                    
                    
                    Col.
      C
                    
                    
                    Col.
      D
                    
                    
                    Col.
      EAdditionsDescription
                    
                    Balance
      at
                      Beginning
      of
                      Period
                    
                    
                    Charged
      to
                      Costs
      and
                      Expenses
                    
                    
                    Charged
                      to
      Other
                      Accounts-
                      Describe
                    
                    
                    Deductions-
                      Describe
                    
                    
                    Balance
      at End
                      of
      PeriodYear
      ended December 31, 2008Deducted
      from asset accounts:Allowance
      for doubtful accounts
                    
                    $
                    810,587
                    
                    
                    $
                    346,602
                    
                    
                    $
                    -
                    
                    
                    $
                    355,883
                    
                    
                    $
                    801,306Inventory
      allowance
                    
                    
                    595,539
                    
                    
                    
                    180,000
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    775,539Warranty
      reserve
                    
                    
                    392,220
                    
                    
                    
                    40,155
                    
                    
                    
                    -
                    
                    
                    
                    27,969
                    
                    
                    
                    404,406Year
      ended December 31, 2007
                    
                    
                    -Deducted
      from asset accounts:Allowance
      for doubtful accounts
                    
                    
                    983,791
                    
                    
                    
                    41,123
                    
                    
                    
                    -
                    
                    
                    
                    214,327
                    
                    
                    
                    810,587Inventory
      allowance
                    
                    
                    415,539
                    
                    
                    
                    180,000
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    595,539Warranty
      reserve
                    
                    
                    392,307
                    
                    
                    
                    44,868
                    
                    
                    
                    -
                    
                    
                    
                    44,955
                    
                    
                    
                    392,220Year
      ended December 31, 2006Deducted
      from asset accounts:Allowance
      for doubtful accounts
                    
                    
                    811,389
                    
                    
                    
                    206,894
                    
                    
                    
                    -
                    
                    
                    
                    34,492
                    
                    
                    
                    983,791Inventory
      allowance
                    
                    
                    31,539
                    
                    
                    
                    384,000
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    415,539Warranty
      reserve
                    
                    
                    393,405
                    
                    
                    
                    34,490
                    
                    
                    
                    -
                    
                    
                    
                    35,588
                    
                    
                    
                    392,307




44


HENRY
BROS. ELECTRONICS, INC. AND SUBSIDIARIES





EXHIBIT
INDEX





The
following exhibits are filed herewith as part of this Report on Form
10-K:





Exhibit
                    Number
                  Description
      of Document
                  Method
                    of
      Filing3.1
      —
                  Certificate
      of Incorporation of the Company
                  (1)3.2
      —
                  By-laws
      of the Company
                  (1)3.3
      —
                  Certificate
      of Amendment of the Certificate of Incorporation of the Company, filed on
      July 5, 2001
                  (2)3.4
      —
                  Certificate
      of Amendment of the Certificate of Incorporation of the Company, filed on
      August 28, 2001
                  (2)3.5
      —
                  Certificate
      of Amendment of the Certificate of Incorporation of the Company, filed on
      August 9, 2005
                  (3)3.6
      —
                  Amended
      and Restated By-laws of the Company, filed on August 9,
    2005
                  (3)4.1
      —
                  Specimen
      Common Stock Certificate of the Company
                  (4)10.1
      —
                  2002
      Stock Option Plan
                  (5)10.5
      —
                  1999
      Incentive Stock Option Plan and form of Stock Option
    Agreement
                  (1)10.8
      —
                  Office
      Lease between the Company and Eagle-DFW, Inc.
                  (6)10.11
      —
                  Agreement
      between the Company and Administaff, Inc.
                  (7)10.12
      —
                  Loan
      Agreement between the Company and Hudson United Bank
                  (8)10.13
      —
                  Stock
      Purchase Agreement between the Company and Securus, Inc.
                  (9)10.14
      —
                  Office
      Lease between the Company and C.K. Bergen Holdings, LLC
                  (10)10.15
      —
                  Stock
      Purchase Agreement between the Company and CIS Security Systems,
      Corporation
                  (11)10.16
      —
                  2006
      Stock Option Plan
                  (12)10.17
      —
                  2007
      Stock Option Plan
                  (15)14.1
      —
                  Code
      of Ethics
                  (13)14.2
      —
                  Nominating
      Committee Charter
                  (14)14.3
      —
                  Audit
      Committee Charter
                  (15)21.1
      —
                  List
      of Subsidiaries
                  (*)23.1
      —
                  Consent
      of Amper, Politziner & Mattia, LLP
                  (*)23.2
      —
                  Consent of Demetrius
      & Company, LLC
                  (*)24
      —
                  Power
      of Attorney (included on signature page hereto)
                  (*)31.1
      —
                  Certification
      of Chief Executive Officer pursuant to Rule 13a-14(a) or Rule 15d-14(a) as
      adopted pursuant to Section 302 of the Sarbanes-Oxley Act of
      2002
                  (*)31.2
      —
                  Certification
      of Chief Operating Officer pursuant to Rule 13a-14(a) or Rule 15d-14(a) as
      adopted pursuant to Section 302 of the Sarbanes-Oxley Act of
      2002
                  (*)31.3
      —
                  Certification
      of Chief Financial Officer pursuant to Rule 13a-14(a) or Rule 15d-14(a) as
      adopted pursuant to Section 302 of the Sarbanes-Oxley Act of
      2002
                  (*)32
      —
                  Section
      1350 Compliance
                  (*)99
      —
                  Audit
      Committee Report
                  (*)


45


HENRY
BROS. ELECTRONICS, INC. AND SUBSIDIARIES




(1)   Incorporated
by reference to the Registration Statement on Form SB-2 File No. 333-94477,
filed with the Securities and Exchange Commission on January 12, 2002(The
“Registration Statement”).




(2)    Incorporated
by reference to Amendment No. 4 to the Registration Statement filed with the
Securities and Exchange Commission on September 25, 2001.




(3)   Incorporated
by reference to the Company’s Current Report on Form 8-K, filed with the
Securities and Exchange Commission on August 9, 2005.




(4)    Incorporated
by reference to Amendment No. 6 to the Registration Statement filed with the
Securities and Exchange Commission on November 13, 2001.




(5)    Incorporated
by reference to the Company’s Definitive Proxy on Form 14A, filed with the
Securities and Exchange Commission on September 27, 2002 for the 2002 Stock
Option Plan and on November 9, 2007 for the 2007 Stock Option Plan.




(6)    Incorporated
by reference to Post-Effective Amendment No. 1 to the Registration Statement
filed on February 8, 2001.




(7)    Incorporated
by reference to the Company’s Annual Report on 10-KSB for the Company for the
Year Ended December 31, 2004 filed with the Securities and Exchange Commission
on March 28, 2005.




(8)   Incorporated
by reference to the Company’s Current Report on Form 8-K, filed with the
Securities and Exchange Commission on July 7, 2005.




(9)  Incorporated
by reference to the Company’s Current Report on Form 8-K, filed with the
Securities and Exchange Commission on October 14, 2005.




(10)  Incorporated
by reference to the Company’s Current Report on Form 8-K, filed with the
Securities and Exchange Commission on June 2, 2006.




(11)
Incorporated by reference to the Company’s Current Report on Form 8-K, filed
with the Securities and Exchange Commission on October 5, 2006.




(12)
Incorporated by reference to the Company’s Definitive Proxy on Form 14A, filed
with the Securities and Exchange Commission on September 22, 2006.




(13)
Incorporated by reference to the Company’s Annual Report on 10-KSB for the
Company for the Year Ended December 31, 2003 filed with the Securities and
Exchange Commission on April 1, 2004.




(14)
Incorporated by reference to the Company’s Definitive Proxy on Form 14A, filed
with the Securities and Exchange Commission on July 5, 2005.




(15)
Incorporated by reference to the Company’s Definitive Proxy on Form 14A, filed
with the Securities and Exchange Commission on November 9, 2007.




(*)    Filed
herewith.




46