UNITED
STATES SECURITIES AND EXCHANGE COMMISSION


WASHINGTON,
D.C.  20549




FORM
10-Q




(Mark
One)




(X)
            QUARTERLY
      REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
      1934
              
              For the quarterly
      period ended September 30, 2009





OR




(   )
            TRANSITION
      REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
      1934
              
              For
      the transition period from ____________ to
    ____________






Commission
file number 1-4324









ANDREA
      ELECTRONICS CORPORATION(Exact name of
      registrant as specified in its charter)




New
      York
              
              11-0482020(State
      or other jurisdiction of
                incorporation
      or organization)
              
              (I.R.S.
      employer identification no.)
   65
      Orville Drive, Bohemia, New York
              
              11716(Address
      of principal executive offices)
              
              (Zip
      Code)
   Registrant’s
      telephone number (including area code):
              
              
              631-719-1800






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




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




Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting
company.  See the definitions of “large accelerated filer,”
“accelerated filer” and “smaller reporting company” in Rule 12b-2 of the
Exchange Act.  (Check one)






Large Accelerated
      Filer
            o
            Accelerated
      Filer
            oNon-Accelerated
      Filer
              (Do
      not check if a smaller reporting company)
            o
            Smaller Reporting
      Company
            x




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




Indicate
the number of shares outstanding of each of the issuer's classes of common
equity, as of the latest practicable date:  As of November 13, 2009,
there were 63,538,029 common shares outstanding.









PART
I. FINANCIAL
INFORMATION




ITEM
1. FINANCIAL
STATEMENTS




ANDREA
ELECTRONICS CORPORATION AND SUBSIDIARIES


CONDENSED
CONSOLIDATED BALANCE SHEETS








September
      30,
            
            
            December
      31,2009
            
            
            2008ASSETS
            
            (unaudited)Current
      assets:Cash
            
            $
            2,252,795
            
            
            $
            1,006,951Accounts
      receivable, net of allowance for doubtful accounts of $6,211 and $7,815,
      respectively
            
            
            383,928
            
            
            
            804,433Inventories,
      net
            
            
            781,127
            
            
            
            868,213Short
      term customer deposit
            
            
            93,168
            
            
            
            -Prepaid
      expenses and other current assets
            
            
            102,194
            
            
            
            124,695Total
      current assets
            
            
            3,613,212
            
            
            
            2,804,292Property
      and equipment, net
            
            
            63,385
            
            
            
            60,904Intangible
      assets, net
            
            
            2,220,473
            
            
            
            2,543,781Other
      assets, net
            
            
            12,864
            
            
            
            12,864Total
      assets
            
            $
            5,909,934
            
            
            $
            5,421,841LIABILITIES AND SHAREHOLDERS’
      EQUITYCurrent
      liabilities:Trade
      accounts payable
            
            $
            733,000
            
            
            $
            272,439Accrued
      Series C Preferred Stock Dividends
            
            
            80,606
            
            
            
            149,912Short-term
      deferred revenue
            
            
            123,168
            
            
            
            40,000Other
      current liabilities
            
            
            171,441
            
            
            
            145,252Total
      current liabilities
            
            
            1,108,215
            
            
            
            607,603Series
      B Redeemable Convertible Preferred Stock, $.01 par value; authorized:
      1,000 shares; issued and outstanding: 0 sharesCommitments
      and contingenciesShareholders’
      equity:Preferred
      stock, $.01 par value; authorized: 2,497,500 shares; none issued and
      outstanding
            
            
            -
            
            
            
            -Series
      C Convertible Preferred Stock, net, $.01 par value; authorized: 1,500
      shares; issued and outstanding: 48.2 and 89.7 shares, respectively;
      liquidation value: $482,314 and $897,014, respectively.
            
            
            1
            
            
            
            1Series
      D Convertible Preferred Stock, net, $.01 par value; authorized: 2,500,000
      shares; issued and outstanding: 907,144 and 1,050,001 shares,
      respectively; liquidation value: $907,144 and $1,050,001,
      respectively.
            
            
            9,072
            
            
            
            10,500Common
      stock, $.01 par value; authorized: 200,000,000 shares; issued and
      outstanding: 63,538,029 and 60,978,373 shares,
    respectively.
            
            
            635,380
            
            
            
            609,784Additional
      paid-in capital
            
            
            77,050,190
            
            
            
            76,814,249Accumulated
      deficit
            
            
            (72,892,924
            )
            
            
            (72,620,296
            )Total
      shareholders’ equity
            
            
            4,801,719
            
            
            
            4,814,238Total
      liabilities and shareholders’ equity
            
            $
            5,909,934
            
            
            $
            5,421,841

















See Notes
to Condensed Consolidated Financial Statements.




2




ANDREA
ELECTRONICS CORPORATION AND SUBSIDIARIES


CONDENSED
CONSOLIDATED STATEMENTS OF OPERATIONS


(UNAUDITED)








For
      the Three Months Ended
            
            
            For
      the Nine Months EndedSeptember
      30,
                2009
            
            
            September
      30,
                2008
            
            
            September
      30,
                2009
            
            
            September
      30,
                2008RevenuesNet
      product revenues
            
            $
            1,039,711
            
            
            $
            946,575
            
            
            $
            2,578,004
            
            
            $
            2,560,133License
      revenues
            
            
            358,256
            
            
            
            337,382
            
            
            
            839,104
            
            
            
            857,715Revenues
            
            
            1,397,967
            
            
            
            1,283,957
            
            
            
            3,417,108
            
            
            
            3,417,848Cost
      of revenues
            
            
            646,368
            
            
            
            526,311
            
            
            
            1,505,011
            
            
            
            1,486,028Gross
      margin
            
            
            751,599
            
            
            
            757,646
            
            
            
            1,912,097
            
            
            
            1,931,820Research
      and development expenses
            
            
            148,913
            
            
            
            179,062
            
            
            
            441,279
            
            
            
            557,807General,
      administrative and selling expenses
            
            
            578,165
            
            
            
            555,326
            
            
            
            1,751,244
            
            
            
            1,721,773Income
      (loss) from operations
            
            
            24,521
            
            
            
            23,258
            
            
            
            (280,426
            )
            
            
            (347,760
            )Interest
      income, net
            
            
            4,782
            
            
            
            2,031
            
            
            
            9,718
            
            
            
            6,602Income
      (loss) before provision for income taxes
            
            
            29,303
            
            
            
            25,289
            
            
            
            (270,708
            )
            
            
            (341,158
            )Provision
      for income taxes
            
            
            355
            
            
            
            -
            
            
            
            1,920
            
            
            
            3,716Net
      income (loss)
            
            $
            28,948
            
            
            $
            25,289
            
            
            $
            (272,628
            )
            
            $
            (344,874
            )Basic
      weighted average shares
            
            
            62,952,705
            
            
            
            60,149,236
            
            
            
            61,643,716
            
            
            
            59,957,908Diluted
      weighted average shares
            
            
            72,608,050
            
            
            
            69,426,298
            
            
            
            61,643,716
            
            
            
            59,957,908Basic
      and diluted net income (loss) per share
            
            $
            .00
            
            
            $
            .00
            
            
            $
            (.00
            )
            
            $
            (.01
            )

















See Notes
to Condensed Consolidated Financial Statements.




3




ANDREA
ELECTRONICS CORPORATION AND SUBSIDIARIES




CONDENSED
CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY


FOR THE
NINE MONTHS ENDED SEPTEMBER 30, 2009


(UNAUDITED)








Series
      C
                Convertible
      Preferred Stock Outstanding
            
            
            Series
      C Convertible Preferred
                Stock
            
            
            Series
      D Convertible Preferred
                Stock
      Outstanding
            
            
            Series
      D Convertible Preferred
                Stock
            
            
            Common
                Stock
                Shares
                Outstanding
            
            
            Common
                Stock
            
            
            Additional
                Paid-In
                Capital
            
            
            Accumulated
                Deficit
            
            
            Total
                Shareholders’
                EquityBalance,
      January 1, 2009
            
            
            89.701477
            
            
            $
            1
            
            
            
            1,050,001
            
            
            $
            10,500
            
            
            
            60,978,373
            
            
            $
            609,784
            
            
            $
            76,814,249
            
            
            $
            (72,620,296
            )
            
            $
            4,814,238Conversions
      of Series C Convertible Preferred Stock
            
            
            (41.470045
            )
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            1,897,320
            
            
            
            18,973
            
            
            
            50,333
            
            
            
            -
            
            
            
            69,306Conversions
      of Series D Convertible Preferred Stock
            
            
            -
            
            
            
            -
            
            
            
            (142,857
            )
            
            
            (1,428
            )
            
            
            571,428
            
            
            
            5,714
            
            
            
            (4,286
            )
            
            
            -
            
            
            
            -Stock-based
      Compensation Expense related to Stock Grants to Outside
      Directors
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            90,908
            
            
            
            909
            
            
            
            20,756
            
            
            
            -
            
            
            
            21,665Stock-based
      Compensation Expense related to Stock Option Grants
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            169,138
            
            
            
            -
            
            
            
            169,138Net
      loss
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            (272,628
            )
            
            
            (272,628
            )Balance,
      September 30, 2009
            
            
            48.231432
            
            
            $
            1
            
            
            
            907,144
            
            
            $
            9,072
            
            
            
            63,538,029
            
            
            $
            635,380
            
            
            $
            77,050,190
            
            
            $
            (72,892,924
            )
            
            $
            4,801,719













See Notes
to Condensed Consolidated Financial Statements.




4




ANDREA
ELECTRONICS CORPORATION AND SUBSIDIARIES


CONDENSED
CONSOLIDATED STATEMENTS OF CASH FLOWS


(UNAUDITED)








For
      the Nine Months EndedSeptember
      30, 2009
            
            
            September
      30, 2008Cash
      flows from operating activities:Net loss
            
            $
            (272,628
            )
            
            $
            (344,874
            )Adjustments to reconcile net loss
      to net cash provided by operating activities:Depreciation and
      amortization
            
            
            387,710
            
            
            
            380,225Stock-based compensation
      expense
            
            
            190,803
            
            
            
            191,008Inventory reserve
            
            
            (46,172
            )
            
            
            26,522Change in:Accounts
    receivable
            
            
            420,505
            
            
            
            267,379Inventories
            
            
            133,258
            
            
            
            (320,103
            )Short term customer
      deposit
            
            
            (93,168
            )
            
            
            -Prepaid expenses and other
      current assets
            
            
            22,501
            
            
            
            (13,732
            )Trade accounts
      payable
            
            
            460,561
            
            
            
            165,382Short-term deferred
      revenue
            
            
            83,168
            
            
            
            -Accrued Series C Preferred Stock
      Dividends
            
            
            (69,306
            )
            
            
            -Other current
      liabilities
            
            
            95,495
            
            
            
            64,072Net cash provided by operating
      activities
            
            
            1,312,727
            
            
            
            415,879Cash
      flows from investing activities:Purchases of property and
      equipment
            
            
            (33,032
            )
            
            
            (35,512
            )Purchases of patents and
      trademarks
            
            
            (33,851
            )
            
            
            (35,252
            )Net cash used in investing
      activities
            
            
            (66,883
            )
            
            
            (70,764
            )Net
      increase in cash and cash equivalents
            
            
            1,245,844
            
            
            
            345,115Cash,
      beginning of period
            
            
            1,006,951
            
            
            
            811,403Cash,
      end of period
            
            $
            2,252,795
            
            
            $
            1,156,518Supplemental
      disclosures of cash flow information:Cash
      paid for:Income taxes
            
            $
            7,040
            
            
            $
            14,211












See Notes
to Condensed Consolidated Financial Statements.


5





ANDREA
ELECTRONICS CORPORATION AND SUBSIDIARIES
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 (UNAUDITED)




Note
1. Basis
of Presentation and Management’s Liquidity Plans





Basis of Presentation
- The accompanying unaudited condensed consolidated interim financial statements
include the accounts of Andrea Electronics Corporation and its subsidiaries
("Andrea" or the “Company”). All intercompany balances and transactions have
been eliminated in consolidation.





These
unaudited, condensed consolidated interim financial statements have been
prepared in accordance with accounting principles generally accepted in the
United States of America (“GAAP”) for interim financial information and with the
instructions to Form 10-Q.  Accordingly, they do not include all of
the information and footnotes required by GAAP for complete financial
statements.  In addition, the December 31, 2008 balance sheet data was
derived from the audited consolidated financial statements, but does not include
all disclosures required by GAAP.  In the opinion of management, all
adjustments (consisting of normal recurring accruals) considered necessary for a
fair presentation have been included. The results of operations of any interim
period are not necessarily indicative of the results of operations to be
expected for any other interim period or for the fiscal year.





These
unaudited condensed consolidated interim financial statements should be read in
conjunction with the audited consolidated financial statements and notes thereto
for the fiscal year ended December 31, 2008 included in the Company's Form 10-K
for the fiscal year ended December 31, 2008, filed on March 31,
2009.  The accounting policies used in preparing these unaudited
condensed consolidated interim financial statements are consistent with those
described in the December 31, 2008 audited consolidated financial
statements.





Accounting Standards
Codification - During the third quarter of 2009, the Company adopted the
Financial Accounting Standards Board (“FASB”) Accounting Standards Update
(“ASU”) No. 2009-01, “Amendments Based on Statement of Financial Accounting
Standards No. 168 – The FASB Accounting Standards Codification and the Hierarchy
of Generally Accepted Accounting Principles” (the “ASC”).  The ASC
became the single source of authoritative GAAP in the United States, other than
rules and interpretive releases issued by the United States Securities and
Exchange Commission (“SEC”). The ASC reorganized GAAP into a topical format that
eliminates the previous GAAP hierarchy and instead established two levels of
guidance – authoritative and nonauthoritative. All non-grandfathered, non-SEC
accounting literature that was not included in the ASC became nonauthoritative.
The adoption of the ASC did not change previous GAAP, but rather simplified user
access to all authoritative literature related to a particular accounting topic
in one place. Accordingly, the adoption had no impact on the Company’s
consolidated financial position and results of operations. All prior references
to previous GAAP in the Company’s consolidated financial statements were updated
for the new references under the ASC.





Management's Liquidity
Plans - As of September 30, 2009, Andrea had working capital of
$2,504,997 and cash on hand of $2,252,795.  Andrea’s income from
operations was $24,521 for the three months ended September 30,
2009.  Andrea incurred a loss from operations of $280,426 for the nine
months ended September 30, 2009.  Andrea plans to continue to improve
its cash flows during 2009 by aggressively pursuing additional licensing
opportunities related to Andrea DSP Audio Software and increasing its Andrea
Anti-Noise Headset Products sales through a refreshed product line, which the
Company introduced in September 2008, as well as the increased efforts of the
Company to its sales and marketing efforts.  However, there can be no
assurance that Andrea will be able to successfully execute the aforementioned
plans.





As of
November 13, 2009, Andrea had approximately $2,000,000 of cash. Management
projects that Andrea has sufficient liquidity available to operate through at
least September 2010.  While Andrea explores opportunities to increase
revenues in new business areas, the Company also continues to examine additional
opportunities for cost reduction and further diversification of its
business.  Since the third quarter of 2006, Andrea has generated cash
flows from operations.  If Andrea fails to develop additional revenues
from sales of its products and licensing of its technology or to generate
adequate funding from operations, or if Andrea fails to obtain additional
financing through a capital transaction or other type of financing, Andrea will
be required to continue to significantly reduce its operating expenses and/or
operations or Andrea may have to relinquish its products, technologies or
markets which could have a materially adverse effect on revenue and operations.
Andrea has no commitment for additional financing and may experience difficulty
in obtaining additional financing on favorable terms, if at all.





Note
2. Summary
of Significant Accounting Policies





Earnings (loss) Per
Share - Basic earnings (loss) per share is computed by dividing the net
income (loss) by the weighted average number of common shares outstanding during
the period.  Diluted earnings (loss) per share adjusts basic earnings
(loss) per share for the effects of convertible securities, stock options and
other potentially dilutive financial instruments, only in the periods in which
such effect is dilutive.  Securities that could potentially dilute
basic earnings (loss) per share (“EPS”) in the future that were not included in
the computation of the diluted EPS because to do so would have been
anti-dilutive for the periods presented, consist of the following:




6




ANDREA
ELECTRONICS CORPORATION AND SUBSIDIARIES
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 (UNAUDITED)


For
      the Three Months Ended
            
            
            For
      the Nine Months EndedSeptember
      30,
                2009
            
            
            September
      30,
                2008
            
            
            September
      30,
                2009
            
            
            September
      30,
                2008Total
      potential common shares as of:Options
      to purchase common stock (Note 7)
            
            
            8,384,321
            
            
            
            12,336,820
            
            
            
            16,174,321
            
            
            
            14,676,820Series
      C Convertible Preferred Stock and related accrued dividends (Note
      3)
            
            
            -
            
            
            
            -
            
            
            
            2,206,664
            
            
            
            4,149,736Series
      D Convertible Preferred Stock and related warrants (Note
4)
            
            
            -
            
            
            
            5,158,344
            
            
            
            3,628,576
            
            
            
            9,929,776Total
      potential common shares
            
            
            8,384,321
            
            
            
            17,495,164
            
            
            
            22,009,561
            
            
            
            28,756,332





The
following table sets forth the components used in the computation of basic and
diluted earnings (loss) per share:





For
      the Three Months Ended
            
            
            For
      the Nine Months EndedSeptember
      30,
                2009
            
            
            September
      30,
                2008
            
            
            September
      30,
                2009
            
            
            September
      30,
                2008Numerator:Net
      income (loss)
            
            $
            28,948
            
            
            $
            25,289
            
            
            $
            (272,628
            )
            
            $
            (344,874
            )Denominator:Weighted
      average shares
            
            
            62,952,705
            
            
            
            60,149,236
            
            
            
            61,643,716
            
            
            
            59,957,908Effect
      of dilutive securities:Series
      C Convertible Preferred Stock
            
            
            2,206,664
            
            
            
            4,149,736
            
            
            
            -
            
            
            
            -Series
      D Convertible Preferred Stock
            
            
            3,628,576
            
            
            
            4,771,432
            
            
            
            -
            
            
            
            -Employee
      stock options
            
            
            3,820,105
            
            
            
            355,894
            
            
            
            -
            
            
            
            -Denominator
      for diluted income (loss) per share-adjusted weighted average shares after
      assumed conversions
            
            
            72,608,050
            
            
            
            69,426,298
            
            
            
            61,643,716
            
            
            
            59,957,908





Cash - Cash includes
cash and highly liquid investments with original maturities of three months or
less.  At times during the periods ended September 30, 2009 and
December 31, 2008, the Company had cash deposits in excess of the maximum
amounts insured by the Federal Deposit Insurance Corporation insurance
limits.  At September 30, 2009, the Company’s cash is held at three
financial institutions.





Concentration of Credit
Risk – The following customers accounted for 10% or more of Andrea’s
consolidated net revenues during at least one of the periods presented
below:





For
      the Three Months Ended
            
            
            For
      the Nine Months EndedSeptember
      30,
                2009
            
            
            September
      30,
                2008
            
            
            September
      30,
                2009
            
            
            September
      30,
                2008Customer
      A
            
            
            22
            %
            
            
            15
            %
            
            
            20
            %
            
            
            14
            %Customer
      B
            
            
            *
            
            
            
            15
            %
            
            
            *
            
            
            
            *Customer
      C
            
            
            13
            %
            
            
            *
            
            
            
            *
            
            
            
            *Customer
      D
            
            
            11
            %
            
            
            *
            
            
            
            *
            
            
            
            *Customer
      E
            
            
            *
            
            
            
            16
            %
            
            
            *
            
            
            
            16
            %





_________________


* Amounts
are less than 10%





Customer C
and Customer D accounted for approximately 13% and 30%, respectively, of total
accounts receivable at September 30, 2009.  Customer A and Customer E
accounted for approximately 61% and 13%, respectively, of total accounts
receivable at December 31, 2008.




7




ANDREA
ELECTRONICS CORPORATION AND SUBSIDIARIES
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 (UNAUDITED)


The
following suppliers accounted for 10% or more of Andrea’s purchases during the
periods presented below:





For
      the Three Months Ended
            
            
            For
      the Nine Months EndedSeptember
      30,
                2009
            
            
            September
      30,
                2008
            
            
            September
      30,
                2009
            
            
            September
      30,
                2008Supplier
      A
            
            
            100
            %
            
            
            96
            %
            
            
            94
            %
            
            
            54
            %





_________________


* Amounts
are less than 10%





At
September 30, 2009, Supplier A accounted for approximately $487,667, or 77% of
accounts payable.





Allowance for Doubtful
Accounts - The Company performs on-going credit evaluations of its
customers and adjusts credit limits based upon payment history and the
customer’s current credit worthiness, as determined by the review of their
current credit information.  Collections and payments from customers
are continuously monitored.  The Company maintains an allowance for
doubtful accounts, which is based upon historical experience as well as specific
customer collection issues that have been identified.  While such bad
debt expenses have historically been within expectations and allowances
established, the Company cannot guarantee that it will continue to experience
the same credit loss rates that it has in the past.  If the financial
condition of customers were to deteriorate, resulting in an impairment of their
ability to make payments, additional allowances may be required.





Inventories -
Inventories are stated at the lower of cost (on a first-in, first-out) or market
basis.  The cost elements of inventories include materials, labor and
overhead.  Andrea reviews its inventory reserve for obsolescence on a
quarterly basis and establishes reserves on inventories when the cost of the
inventory is not expected to be recovered.  Andrea’s policy is to
reserve for inventory that shows slow movement over the preceding six
consecutive quarters.  Andrea records charges in inventory reserves as
part of its cost of revenues.





September
      30, 2009
            
            
            December
      31, 2008Raw
      materials
            
            $
            31,398
            
            
            $
            31,550Work
      in Process
            
            
            -
            
            
            
            36,291Finished
      goods
            
            
            1,405,378
            
            
            
            1,502,1931,436,776
            
            
            
            1,570,034Less:
      reserve for obsolescence
            
            
            (655,649
            )
            
            
            (701,821
            )$
            781,127
            
            
            $
            868,213





Intangible and Long-Lived
Assets - Andrea accounts for its long-lived assets in accordance with ASC
360 “Property, Plant and Equipment” for purposes of determining and measuring
impairment of its long-lived assets (primarily intangible assets) other than
goodwill. Andrea’s policy is to periodically review the value assigned to its
long-lived assets to determine if they have been permanently impaired by adverse
conditions which may affect Andrea. If Andrea identifies a permanent impairment
such that the carrying amount of Andrea’s long lived assets are not recoverable
using the sum of an undiscounted cash flow projection (gross margin dollars from
product revenues), a new cost basis for the impaired asset will be established.
If required, an impairment charge is recorded based on an estimate of future
discounted cash flows.  This new cost basis will be net of any
recorded impairment.  At September 30, 2009 and December 31, 2008,
Andrea concluded that the Andrea DSP Microphone and Audio Software Products
business segment was not required to be tested for recoverability.





Andrea
amortizes its core technology, patents and trademarks on a straight-line basis
over the estimated useful lives of its intangible assets that range from 15 to
17 years.  For the three-month periods ended September 30, 2009 and
2008, amortization expense was $119,246 and $119,487,
respectively.  For the nine-month periods ended September 30, 2009 and
2008, amortization expense was $357,159 and $356,978, respectively.





Revenue
Recognition - Non-software related revenue, which is generally
comprised of microphones and microphone connectivity product revenues, is
recognized when title and risk of loss pass to the customer, which is generally
upon shipment.  With respect to licensing revenues, Andrea recognizes
revenue in accordance with ASC 985, “Software” and ASC 605 “Revenue
Recognition.”  License revenue is recognized based on the terms and
conditions of individual contracts (see Note 5).  In addition, fee
based services, which are short-term in nature, are generally performed on a
time-and-material basis under separate service arrangements and the
corresponding revenue is generally recognized as the services are
performed.




8




ANDREA
ELECTRONICS CORPORATION AND SUBSIDIARIES
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 (UNAUDITED)


Income Taxes - The
provision for income taxes is a result of certain licensing revenues that are
subject to withholding of income tax as mandated by the foreign jurisdiction in
which the revenues are earned.  For all other income taxes, Andrea
accounts for income taxes in accordance with ASC 740, “Income Taxes” (“ASC
740”).  ASC 740 requires an asset and liability approach for financial
accounting and reporting for income taxes and establishes for all entities a
minimum threshold for financial statement recognition of the benefit of tax
positions, and requires certain expanded disclosures.  The provision
for income taxes is based upon income or loss after adjustment for those
permanent items that are not considered in the determination of taxable income.
Deferred income taxes represent the tax effects of differences between the
financial reporting and tax bases of the Company’s assets and liabilities at the
enacted tax rates in effect for the years in which the differences are expected
to reverse.  The Company evaluates the recoverability of deferred tax
assets and establishes a valuation allowance when it is more likely than not
that some portion or all of the deferred tax assets will not be
realized.  Since cumulative losses weigh heavily in the overall
assessment, Andrea provides a full valuation allowance on future tax benefits
until it can sustain a level of profitability that demonstrates its ability to
utilize the assets, or other significant positive evidence arises that suggests
Andrea’s ability to utilize such assets.  If it becomes more likely
than not that a tax asset will be used, the related valuation allowance on such
assets would be reversed.  Management makes judgments as to the
interpretation of the tax laws that might be challenged upon an audit and cause
changes to previous estimates of tax liability.  In management’s
opinion, adequate provisions for income taxes have been made for all
years.  If actual taxable income by tax jurisdiction varies from
estimates, additional allowances or reversals of reserves may be
necessary.  Income tax expense consists of the tax payable for the
period and the change during the period in deferred tax assets and
liabilities.  The Company has identified its federal tax return and
its state tax return in New York as "major" tax jurisdictions.  Based
on the Company's evaluation, it has been concluded that there are no significant
uncertain tax positions requiring recognition in the Company's financial
statements.  The Company's evaluation was performed for tax years
ended 2003 through 2008.  The Company believes that its income tax
positions and deductions will be sustained on audit and does not anticipate any
adjustments that will result in a material change to its financial
position.





Stock-Based
Compensation - At September 30, 2009, Andrea had three stock-based
employee compensation plans, which are described more fully in Note
7.  Andrea accounts for stock based compensation in accordance with
ASC 718, “Compensation – Stock Compensation” (“ASC 718”).  ASC 718
establishes accounting for stock-based awards exchanged for employee
services.  Under the provisions of ASC 718, share-based compensation
cost is measured at the grant date, based on the fair value of the award, and is
recognized as expense over the employee’s requisite service period (generally
the vesting period of the equity grant).  The fair value of the
Company’s common stock options are estimated using the Black Scholes
option-pricing model with the following assumptions:  expected
volatility, dividend rate, risk free interest rate and the expected
life.  The Company expenses stock-based compensation by using the
straight-line method.  In accordance with ASC 718, excess tax benefits
realized from the exercise of stock-based awards are classified in cash flows
from financing activities.  The future realization of the reserved
deferred tax assets related to these tax benefits associated with the exercise
of stock options will result in a credit to additional paid in capital if the
related tax deduction reduces taxes payable.  The Company has elected
the “with and without approach” regarding ordering of windfall tax benefits to
determine whether the windfall tax benefit did reduce taxes payable in the
current year.   Under this approach, the windfall tax benefit
would be recognized in additional paid-in-capital only if an incremental tax
benefit is realized after considering all other benefits presently
available.




Recently
Issued Accounting Pronouncements




In June
2008, the FASB ratified EITF No. 07-5, "Determining Whether an Instrument (or an
Embedded Feature) is Indexed to an Entity's Own Stock" ("EITF 07-5"), now
incorporated into ASC Sub Topic 815-40 “Contract in Entity’s Own
Stock”  (“Sub Topic 815-40”).  EITF 07-5 provides that an
entity should use a two-step approach to evaluate whether an equity-linked
financial instrument (or embedded feature) is indexed to its own stock,
including evaluating the instrument's contingent exercise and settlement
provisions. EITF 07-5 is effective for financial statements issued for fiscal
years beginning after December 15, 2008. Early application is not
permitted.  The adoption of this statement did not have an effect on
the Company’s consolidated financial position, liquidity, or results of
operations.





In May
2009, the FASB issued SFAS No. 165, “Subsequent Events,” now incorporated in ASC
855, “Subsequent Events.”  This Statement sets forth: 1) the period
after the balance sheet date during which management of a reporting entity
should evaluate events or transactions that may occur for potential recognition
or disclosure in the financial statements; 2) the circumstances under which an
entity should recognize events or transactions occurring after the balance sheet
date in its financial statements; and 3) the disclosures that an entity should
make about events or transactions that occurred after the balance sheet date.
This Statement is effective for interim and annual periods ending after June 15,
2009. The Company adopted this Statement in the quarter ended June 30, 2009.
This Statement did not impact the Company’s consolidated financial position and
results of operations.




9




ANDREA
ELECTRONICS CORPORATION AND SUBSIDIARIES
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 (UNAUDITED)


In June
2009, the FASB issued SFAS No. 167, “Amendments to FASB Interpretation No.
46(R)” (“SFAS 167”).  This standard has not yet been integrated into
the ASC.  SFAS 167 eliminates Interpretation 46(R)’s exceptions to
consolidating qualifying special-purpose entities, contains new criteria for
determining the primary beneficiary, and increases the frequency of required
reassessments to determine whether a company is the primary beneficiary of a
variable interest entity.  SFAS 167 also contains a new requirement
that any term, transaction, or arrangement that does not have a substantive
effect on an entity’s status as a variable interest entity, a company’s power
over a variable interest entity, or a company’s obligation to absorb losses or
its right to receive benefits of an entity must be disregarded in applying
Interpretation 46(R)’s provisions.  The elimination of the qualifying
special-purpose entity concept and its consolidation exceptions means more
entities will be subject to consolidation assessments and
reassessments.  SFAS 167 will be effective January 1,
2010.  We do not expect the adoption of SFAS 167 to have any impact on
our financial statements or results of operations.





In October
2009, the FASB issued new accounting guidance, under ASC Topic 605 “Revenue
Recognition”, which amends revenue recognition policies for arrangements with
multiple deliverables. This guidance eliminates the residual method of revenue
recognition and allows the use of management’s best estimate of selling price
for individual elements of an arrangement when vendor specific objective
evidence, vendor objective evidence or third-party evidence is unavailable. This
guidance is effective for all new or materially modified arrangements entered
into on or after January 1, 2011 with earlier application permitted as of the
beginning of a fiscal year. Full retrospective application of the new guidance
is optional.  The Company has not completed their assessment of this
new guidance on their financial condition, results of operations or cash
flows.





In October
2009, the FASB issued new accounting guidance, under ASC Topic 985 “Software”,
which amends the scope of existing software revenue recognition accounting.
Tangible products containing software components and non-software components
that function together to deliver the product’s essential functionality would be
scoped out of the accounting guidance on software and accounted for based on
other appropriate revenue recognition guidance.  For the Company, this
guidance is effective for all new or materially modified arrangements entered
into on or after January 1, 2011 with earlier application permitted as of the
beginning of a fiscal year. Full retrospective application of this new guidance
is optional. This guidance must be adopted in the same period that the Company
adopts the amended accounting for arrangements with multiple deliverables
described in the preceding paragraph. The Company has not completed their
assessment of this new guidance on their financial condition, results of
operations or cash flows.





Reclassifications -
Certain prior year amounts have been reclassified to conform to the current year
presentation.





Use of Estimates -
The preparation of financial statements in conformity with GAAP, requires
management to make estimates and assumptions that affect the reported amounts of
assets, liabilities and disclosures of contingent assets and liabilities at the
date of the financial statements and the reported amounts of revenues and
expenses during the reporting period.





Management
bases its estimates on historical experience and on various assumptions that are
believed to be reasonable under the circumstances, the results of which form the
basis for making judgments about the carrying value of assets and liabilities
that are not readily apparent from other sources.  The most
significant estimates, among other things, are used in accounting for allowances
for bad debts, inventory valuation and obsolescence, product warranty,
depreciation, deferred income taxes, expected realizable values for assets
(primarily intangible assets), contingencies, revenue recognition, as well as
the recording and presentation of the Company’s convertible preferred stock.
Estimates and assumptions are periodically reviewed and the effects of any
material revisions are reflected in the condensed consolidated financial
statements in the period that they are determined to be necessary. Actual
results could differ from those estimates and assumptions.





Subsequent Events -
The Company has evaluated events that occurred subsequent to September 30, 2009
through November 16, 2009, the date on which the financial statements for the
period ended September 30, 2009 were issued.  Except as disclosed in
Note 7 to these financial statements, management concluded that no events
required disclosure in these financial statements.





Note
3. Series
C Redeemable Convertible Preferred Stock





On October
10, 2000, Andrea issued and sold in a private placement $7,500,000 of Series C
Redeemable Convertible Preferred Stock (the “Series C Preferred
Stock”).  Each of these shares of Series C Preferred Stock had a
stated value of $10,000 plus a $1,671 increase in the stated value, which sum is
convertible into Common Stock at a conversion price of $0.2551.  On
February 17, 2004, Andrea announced that it had entered into an Exchange and
Termination Agreement and an Acknowledgment and Waiver Agreement, which
eliminated the dividend of 5% per annum on the stated value.  The
additional amount of $1,671 represents the 5% per annum from October 10, 2000
through February 17, 2004.  The shares of Series C Preferred Stock are
subject to antidilution provisions, which are triggered in the event of certain
stock splits, recapitalizations, or other dilutive transactions.  In
addition, issuances of common stock at a price below the conversion price then
in effect (currently $0.2551), or the issuance of warrants, options, rights, or
convertible securities which have an exercise price or conversion price less
than that conversion price, other than for certain previously outstanding
securities and certain “excluded securities” (as defined in the certificate of
amendment), require the adjustment of the conversion price to that lower price
at which shares of common stock have been issued or may be
acquired.  In the event that Andrea issues securities in the future
which have a conversion price or exercise price which varies with the market
price and the terms of such variable price are more favorable than the
conversion price in the Series C Preferred Stock, the purchasers may elect to
substitute the more favorable variable price when making conversions of the
Series C Preferred Stock.




10




ANDREA
ELECTRONICS CORPORATION AND SUBSIDIARIES
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 (UNAUDITED)


In
accordance with Sub Topic 815-40, Andrea evaluated the Series C Preferred Stock
and concluded that it is not indexed to the Company’s stock because of the
conversion price adjustment feature described above.  Accordingly,
under the provisions of ASC 815, “Derivatives and Hedging” (“ASC 815”), Andrea
evaluated the Series C Preferred Stock embedded conversion
feature.  The Company has concluded that the embedded conversion
feature would be classified in stockholders’ equity if it were a freestanding
instrument as the Series C Preferred Stock is more akin to equity and as such it
should not be bifurcated from the Series C instrument and accounted for
separately.





On July
17, 2009, 37.47 shares of Series C Preferred Stock, together with related
accrued dividends, were converted into 1,714,314 shares of Common Stock at a
conversion price of $0.2551. On September 8, 2009, 4.0 shares of Series C
Preferred Stock, together with related accrued dividends, were converted into
183,006 shares of Common Stock at a conversion price of $0.2551.





As of
September 30, 2009, there were 48.231432 shares of Series C Preferred Stock
outstanding, which were convertible into 2,206,664 shares of Common Stock and
remaining accrued dividends of $80,606.





Note
4. Series
D Redeemable Convertible Preferred Stock





On
February 17, 2004, Andrea entered into a Securities Purchase Agreement
(including a Registration Rights Agreement) with certain holders of the Series C
Preferred Stock and other investors (collectively, the “Buyers”) pursuant to
which the Buyers agreed to invest a total of $2,500,000.  In
connection with this agreement, on February 23, 2004, the Buyers purchased, for
a purchase price of $1,250,000, an aggregate of 1,250,000 shares of a new class
of preferred stock, the Series D Preferred Stock, convertible into 5,000,000
shares of Common Stock (an effective conversion price of $0.25 per share) and
Common Stock warrants exercisable for an aggregate of 2,500,000 shares of Common
Stock.  These warrants were exercisable at any time after August 17,
2004, at an exercise price of $0.38 per share.  On February 23, 2009,
these warrants expired without being exercised.





In
addition, on June 4, 2004, the Buyers purchased for an additional $1,250,000, an
additional 1,250,000 shares of Series D Preferred Stock convertible into
5,000,000 shares of Common Stock (an effective conversion price of $0.25 per
share) and Common Stock warrants exercisable for an aggregate of 2,500,000
shares of Common Stock.  The warrants were exercisable at any time
after December 4, 2004 and before June 4, 2009 at an exercise price of $0.17 per
share.  On June 4, 2009, these warrants expired without being
exercised.





The shares
of Series D Preferred Stock are also subject to antidilution provisions, which
are triggered in the event of certain stock splits, recapitalizations, or other
dilutive transactions. In addition, issuances of common stock at a price below
the conversion price then in effect (currently $0.25), or the issuance of
warrants, options, rights, or convertible securities which have an exercise
price or conversion price less than that conversion price, other than for
certain previously outstanding securities and certain “excluded securities” (as
defined in the certificate of amendment), require the adjustment of the
conversion price to that lower price at which shares of common stock have been
issued or may be acquired. In the event that Andrea issues securities in the
future which have a conversion price or exercise price which varies with the
market price and the terms of such variable price are more favorable than the
conversion price in the Series D Preferred Stock, the purchasers may elect to
substitute the more favorable variable price when making conversions of the
Series D Preferred Stock.  The Company is required to maintain an
effective registration statement from the time of issuance until the earlier of
(i) the date as of which the investors may sell all of the securities for the
common stock issuable under the Series D Preferred Stock covered by the
registration statement without restriction under SEC rules or (ii) the date on
which the investors shall have sold all the securities covered by the
registration statement.  In addition, the Company is required to use
its best efforts to secure the inclusion for quotation on the Over the Counter
Bulletin Board for the common stock issuable under the Series D Preferred Stock
and to arrange for at least two market makers to register with the Financial
Industry Regulatory Authority.  In the event that the holder of the
Series D Preferred Stock and related warrants is unable to convert these
securities into Andrea Common Stock, the Company shall pay to each such holder
of such registrable securities a Registration Delay Payment.  This
payment is to be paid in cash and is equal to the product of (i) the stated
value of such Preferred Shares multiplied by (ii) the product of (1) .0005
multiplied by (2) the number of days that sales cannot be made pursuant to the
Registration Statement (excluding any days during that may be considered grace
periods as defined by the Registration Rights Agreement).





In
accordance with Sub Topic 815-40, Andrea evaluated the Series D Preferred Stock
and concluded that it is not considered to be indexed to the Company’s stock
because of the conversion price adjustment feature described
above.  Accordingly, under the provisions of ASC 815, Andrea evaluated
the Series D Preferred Stock embedded conversion feature.  The Company
has concluded that the embedded conversion feature would be classified in
stockholders’ equity if it were a freestanding instrument as the Series D
Preferred Stock is more akin to equity and as such it should not be bifurcated
from the Series D instrument and accounted for separately.




11




ANDREA
ELECTRONICS CORPORATION AND SUBSIDIARIES
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 (UNAUDITED)


Additionally,
Andrea reviewed the Series D Preferred Stock warrants and concluded that they
are considered to be indexed to the Company’s stock within the provisions of ASC
815-40 and were properly classified.





Through
September 30, 2009, 281,250 shares of common stock have been issued as a result
of exercises of the Series D Preferred Stock Warrants.  There were no
Series D Preferred Stock Warrant exercises during the nine months ended
September 30, 2009.





On July
17, 2009, 142,857 shares of Series D Preferred Stock were converted into 571,428
shares of Common Stock at a conversion price of $0.25.





As of
September 30, 2009, there were 907,144 shares of Series D Preferred Stock
outstanding which were convertible into 3,628,576 shares of Common
Stock.





Note
5. Licensing
Agreements





The
Company has entered into various licensing, production and distribution
agreements with manufacturers of PC and related components.  These
agreements provide for revenues based on the terms of each individual
agreement.  The Company's two largest licensing customers accounted
for $306,476 and $39,750 of revenues for the three months ended September 30,
2009 and $186,459 and $128,664 of revenues for the three months ended September
30, 2008.  The Company's two largest licensing customers accounted for
$692,905 and $88,160 of revenues for the nine months ended September 30, 2009
and $472,133 and $322,661 of revenues for the nine months ended September 30,
2008.





Note
6. Commitments
And Contingencies





Leases





Andrea
leases its corporate headquarters located in Bohemia, New York.  The
lease (from an unrelated party), which currently expires in April 2015, is for
approximately 11,000 square feet and houses Andrea’s warehousing, sales and
executive offices.  Rent expense under this operating lease was
$21,715 and $64,513 for the three and nine-month periods ended September 30,
2009, respectively and $21,083 and $62,634 for the three and nine-month periods
ended September 30, 2008, respectively.





As of
September 30, 2009, the future minimum annual lease payments under this lease
and all non-cancelable operating leases are as follows:





2009
      (October 1 to December 31)
            
            $
            26,1452010
            
            
            106,5342011
            
            
            108,9742012
            
            
            105,7282013
            
            
            96,814Thereafter
            
            
            133,283Total
            
            $
            577,478





Employment
Agreements





In
November 2008, the Company entered into an employment agreement with the
Chairman of the Board, Douglas J. Andrea.  The effective date of the
employment agreement is August 1, 2008 and the agreement expires July 31, 2010
and is subject to renewal as approved by the Compensation Committee of the Board
of Directors.  Pursuant to his employment agreement, Mr. Andrea will
receive an annual base salary of $312,500 through July 31, 2009, and for the
period of August 1, 2009 through July 31, 2010, Mr. Andrea will receive an
annual base salary of $325,000.  The employment agreement provides for
quarterly bonuses equal to 25% of the Company’s pre-bonus net after tax
quarterly earnings in excess of $25,000 for a total quarterly bonus amount not
to exceed $12,500; and annual bonuses equal to 10% of the Company’s annual
pre-bonus net after tax earnings in excess of $300,000.  All bonuses
shall be payable as soon as the Company's cash flow permits.  All
bonus determinations or any additional bonus in excess of the above will be made
in the sole discretion of the Compensation Committee. On August 8, 2008, the
Board of Directors granted Mr. Andrea 2,000,000 stock options and 1,000,000
stock options with an aggregate fair value of $120,000 (fair value was estimated
using the Black-Scholes option-pricing model).  The 2,000,000 grant
vests in three equal annual installments over a three year period commencing
August 1, 2009.  The 1,000,000 grant vests in three equal annual
installments over a three year period commencing August 1,
2010.  These 3,000,000 stock options granted have an exercise price of
$0.04 per share, which was the fair market value of the Company’s common stock
at the date of grant, and a term of 10 years.  Pursuant to the
employment agreement, on July 24, 2009, the Board of Directors granted Mr.
Andrea 1,000,000 stock options with an aggregate fair value of $110,000 (fair
value was estimated using the Black-Scholes option-pricing
model).  The 1,000,000 grant vests in three equal annual installments
over a three year period commencing August 1, 2010.  These 1,000,000
stock options have an exercise price of $0.11 per share, which was the fair
market value of the Company’s common stock at the date of grant, and a term of
10 years.  Mr. Andrea is also entitled to a change in control payment
equal to two times his salary with continuation of health and medical benefits
for two years in the event of a change in control, as defined in the
agreement.  At September 30, 2009, the future minimum cash commitments
under this agreement aggregate $271,820.




12




ANDREA
ELECTRONICS CORPORATION AND SUBSIDIARIES
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 (UNAUDITED)


In
November 1999, as amended August 2008, the Company entered into a change in
control agreement with the Chief Financial Officer, Corisa L.
Guiffre.  This agreement provides for a change in control payment
equal to three times her average annual compensation for the five preceding
taxable years, with continuation of health and medical benefits for three years
in the event of a change in control of the Company, as defined in the agreement,
and subsequent termination of employment other than for cause.





Legal
Proceedings





Andrea is
not involved in any pending legal proceedings.





Note
7. Stock
Plans and Stock Based Compensation





In 1991,
the Board of Directors of Andrea adopted the 1991 Performance Equity Plan (“1991
Plan”), which was approved subsequently by the shareholders. The 1991 Plan, as
amended, authorized the granting of awards, the exercise of which allowed up to
an aggregate of 4,000,000 shares of Andrea’s Common Stock to be acquired by the
holders of those awards.  Stock options granted to employees and
directors under the 1991 Plan were granted for terms of up to 10 years at an
exercise price equal to the market value at the date of grant.  No
further awards will be granted under the 1991 Plan.




In 1998,
the Board of Directors adopted the 1998 Stock Option Plan (“1998 Plan”), which
was subsequently approved by the shareholders. The 1998 Plan, as amended,
authorized the granting of awards, the exercise of which allowed up to an
aggregate of 6,375,000 shares of Andrea’s Common Stock to be acquired by the
holders of those awards.  The awards could take the form of stock
options, stock appreciation rights, restricted stock, deferred stock, stock
reload options or other stock-based awards. Awards could be granted to key
employees, officers, directors and consultants.  No further awards
will be granted under the 1998 Plan.





In October
2006, the Board of Directors adopted the Andrea Electronics Corporation 2006
Equity Compensation Plan (“2006 Plan”), which was subsequently approved by the
shareholders.  The 2006 Plan authorizes the granting of awards, the
exercise of which would allow up to an aggregate of 10,000,000 shares of
Andrea’s Common Stock to be acquired by the holders of those
awards.  On July 24, 2009, shareholders approved an amendment to the
2006 Plan to increase the number of shares issuable under the 2006 Plan to
18,000,000.  The awards can take the form of stock options, stock
appreciation rights, restricted stock or other stock-based awards. Awards may be
granted to key employees, officers, directors and consultants.  At
September 30, 2009, there were 6,280,436 shares available for further issuance
under the 2006 Plan.





The stock
option awards granted under these plans have been granted with an exercise price
equal to the market price of the Company’s stock at the date of grant, with
vesting periods of up to four years and 10-year contractual terms.





The fair
values of each stock option grant is estimated on the date of grant using the
Black-Scholes option-pricing model that uses the weighted-average assumptions
noted in the following table.  Expected volatilities are based on
implied volatilities from historical volatility of the Company’s
stock.  The expected term of options granted represents the period of
time that options granted are expected to be outstanding.  The
risk-free 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 grant.





The fair
values of the stock options granted for the three and nine-month periods ended
September 30, 2009 were estimated on the date of grant using the Black-Scholes
option-pricing model using the following weighted-average
assumptions:





Three
      months ended September 30, 2009
            
            
            Nine
      months ended September 30, 2009Expected
      life in years
            
            
            6
            
            
            
            6Risk-free
      interest rates
            
            
            2.90
            %
            
            
            2.90
            %Volatility
            
            
            163.21
            %
            
            
            163.21
            %Dividend
      yield
            
            
            0
            %
            
            
            0
            %





13





ANDREA
ELECTRONICS CORPORATION AND SUBSIDIARIES
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 (UNAUDITED)




The fair
values of the stock options granted for the three and nine-month periods ended
September 30, 2008 were estimated on the date of grant using the Black-Scholes
option-pricing model using the following weighted-average
assumptions:





Three
      months ended September 30, 2008
            
            
            Nine
      months ended September 30, 2008Expected
      life in years
            
            
            6
            
            
            
            6Risk-free
      interest rates
            
            
            3.35
            %
            
            
            3.38
            %Volatility
            
            
            146.91
            %
            
            
            146.59
            %Dividend
      yield
            
            
            0
            %
            
            
            0
            %





Option
activity during 2009 is summarized as follows:





Options
      Outstanding
            
            Options
      ExercisableOptions
              Outstanding
            
            
            Weighted
              Average
              Exercise
              Price
            
            
            Weighted
              Average
              Fair
              Value
            
            Weighted
              Average
      Remaining Contractual
              Life
            
            Options
              Exercisable
            
            
            Weighted
              Average
              Exercise
              Price
            
            
            Weighted
              Average
              Fair
              Value
            
            Weighted
      Average Remaining Contractual
              LifeAt
      January 1, 2009
            
            
            14,661,820
            
            
            $
            0.32
            
            
            $
            0.24
            
            7.89 years
            
            
            6,973,385
            
            
            $
            0.60
            
            
            $
            0.45
            
            6.45 yearsGranted
            
            
            1,730,001
            
            
            $
            0.11
            
            
            $
            0.11Cancelled
            
            
            (217,500
            )
            
            $
            5.97
            
            
            $
            4.24At
      September 30, 2009
            
            
            16,174,321
            
            
            $
            0.22
            
            
            $
            0.18
            
            7.53 years
            
            
            9,642,350
            
            
            $
            0.32
            
            
            $
            0.25
            
            6.59
  years





During the
three months ended September 30, 2009, 2,717,615 options vested with a weighted
average exercise price of $0.08 and a weighted average fair value of $0.07 per
option.  During the nine months ended September 30, 2009, 2,886,465
options vested with a weighted average exercise price of $0.08 and a weighted
average fair value of $0.07 per option.





Based on
the September 30, 2009 fair market value of the Company’s common stock of $0.12,
the aggregate intrinsic value for the 16,174,321 options outstanding and
9,642,350 shares exercisable is $625,118 and $304,587,
respectively.





Total
compensation expense recognized related to stock option awards was $60,476 and
$66,871 for the three months ended September 30, 2009 and 2008,
respectively.  In the accompanying consolidated statement of
operations for the three months ended September 30, 2009, $48,060 of expense is
included in general, administrative and selling expenses, $11,399 is included in
research and development expenses and $1,017 is included in cost of
revenues.  In the accompanying consolidated statement of operations
for the three months ending September 30, 2008, $52,061 of expense is included
in general, administrative and selling expenses, $14,408 is included in research
and development expenses and $402 is included in cost of
revenues.  Total compensation expense recognized related to all stock
option awards was $169,138 and $173,508 for the nine months ended September 30,
2009 and 2008, respectively.  In the accompanying consolidated
statement of operations for the nine months ending September 30, 2009, $134,894
of expense is included in general, administrative and selling expenses, $32,177
is included in research and development expenses and $2,067 is included in cost
of revenues.  In the accompanying consolidated statement of operations
for the nine months ending September 30, 2008, $134,836 of expense is included
in general, administrative and selling expenses, $37,508 is included in research
and development expenses and $1,164 is included in cost of
revenues.





As of
September 30, 2009, there was $257,776 of total unrecognized compensation cost
related to nonvested share-based compensation arrangements granted under the
1998 and 2006 Plans.  This unrecognized compensation cost is expected
to be recognized over the next 3 years ($51,005 in 2009, $145,154 in 2010,
$49,957 in 2011 and $11,660 in 2012).





Pursuant
to Andrea’s compensation policy for outside directors, on July 24, 2009 and
August 8, 2008, Andrea granted 90,908 shares of Common Stock with a fair market
value of $0.11 and 500,000 shares of Common Stock with a fair market value of
$0.04, respectively.  These stock grants were fully vested on the date
of grant.  Compensation expense related to these awards was $11,663
and $7,498 for the three months ended September 30, 2009 and 2008,
respectively.   Compensation expense related to these awards was
$21,665 and $17,500 for the nine months ended September 30, 2009 and 2008,
respectively.





On July
24, 2009, pursuant to Andrea’s compensation policy for outside directors, Andrea
granted 45,455 stock options to the chairperson on the Audit Committee and
18,182 stock options to each of the other three outside
directors.  The stock option grants provide for an eighteen-month
vesting period, an exercise price of $0.11 per share, which was the fair market
value of the Company’s common stock at the date of grant, and a term of 10
years.  The fair value of these 100,001 stock options was $11,000
(fair value was estimated on the date of grant using the Black-Scholes
option-pricing model).




14




ANDREA
ELECTRONICS CORPORATION AND SUBSIDIARIES
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 (UNAUDITED)


Also, on
July 24, 2009, the Board granted 1,000,000 stock options to the President and
Chief Executive Officer, 200,000 stock options to the Vice President and Chief
Financial Officer, and 430,000 stock options to employees of the
Company.  Each option grant provides for vesting periods of up to
three years, an exercise price of $0.11 per share, which was the fair market
value of the Company’s common stock at the date of grant, and a term of 10
years.  The fair value of these 1,630,000 stock options was $179,300
(fair value was estimated on the date of grant using the Black-Scholes
option-pricing model).





On
November 11, 2009, the Board granted 250,000 stock options to employees of the
Company.  Each option grant provides for vesting periods of up to
three years, an exercise price of $0.08 per share, which was the fair market
value of the Company’s common stock at the date of grant, and a term of 10
years.  The fair value of these 250,000 stock options was $20,000
(fair value was estimated on the date of grant using the Black-Scholes
option-pricing model).





Note
8. Segment
Information





Andrea
follows the provisions of ASC 280 “Reporting” (“ASC 280”).  Reportable
operating segments are determined based on Andrea’s management approach. The
management approach, as defined by ASC 280, is based on the way that the chief
operating decision-maker organizes the segments within an enterprise for making
operating decisions and assessing performance. While Andrea’s results of
operations are primarily reviewed on a consolidated basis, the chief operating
decision-maker also manages the enterprise in two segments: (i) Andrea DSP
Microphone and Audio Software Products and (ii) Andrea Anti-Noise
Products.  Andrea DSP Microphone and Audio Software Products primarily
include products based on the use of some, or all, of the following
technologies: Andrea Digital Super Directional Array microphone technology
(DSDA), Andrea Direction Finding and Tracking Array microphone technology
(DFTA), Andrea PureAudio noise filtering technology, and Andrea EchoStop, an
advanced acoustic echo cancellation technology.  Andrea Anti-Noise
Products include noise cancellation and active noise cancellation computer
headset products and related computer peripheral products.





The
following represents selected condensed consolidated financial information for
Andrea’s segments for the three-month periods ended September 30, 2009 and
2008.





2009
      Three Month Segment Data
            
            Andrea
      DSP
                Microphone
      and Audio Software Products
            
            
            Andrea
      Anti-
                Noise
      Products
            
            
            Total
      2009 Three
                Month
      Segment DataNet
      revenues from external customers
            
            $
            91,437
            
            
            $
            948,274
            
            
            $
            1,039,711License
      Revenues
            
            
            358,256
            
            
            
            -
            
            
            
            358,256Income
      (loss) from operations
            
            
            34,441
            
            
            
            (9,920
            )
            
            
            24,521Depreciation
      and amortization
            
            
            117,902
            
            
            
            12,504
            
            
            
            130,406Purchases
      of property and equipments
            
            
            2,153
            
            
            
            3,229
            
            
            
            5,382Purchases
      of patents and trademarks
            
            
            1,245
            
            
            
            4,484
            
            
            
            5,729Assets
            
            
            3,605,719
            
            
            
            2,304,215
            
            
            
            5,909,934Total
      long lived assets
            
            
            2,055,036
            
            
            
            241,686
            
            
            
            2,296,7222008
      Three Month Segment Data
            
            Andrea
      DSP
                Microphone
      and Audio Software Products
            
            
            Andrea
      Anti-
                Noise
      Products
            
            
            Total
      2008 Three
                Month
      Segment DataNet
      revenues from external customers
            
            $
            158,045
            
            
            $
            788,530
            
            
            $
            946,575License
      Revenues
            
            
            337,382
            
            
            
            -
            
            
            
            337,382Income
      (loss) from operations
            
            
            30,428
            
            
            
            (7,170
            )
            
            
            23,258Depreciation
      and amortization
            
            
            117,803
            
            
            
            10,767
            
            
            
            128,570Purchases
      of property and equipments
            
            
            2,620
            
            
            
            13,850
            
            
            
            16,470Purchases
      of patents and trademarks
            
            
            -
            
            
            
            538
            
            
            
            538Assets
            
            
            3,765,725
            
            
            
            1,942,869
            
            
            
            5,708,594Total
      long lived assets
            
            
            2,509,052
            
            
            
            229,775
            
            
            
            2,738,827





15




ANDREA
ELECTRONICS CORPORATION AND SUBSIDIARIES
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 (UNAUDITED)


The
following represents selected condensed consolidated financial information for
Andrea’s segments for the nine-month periods ended September 30, 2009 and
2008:





2009
      Nine Month Segment Data
            
            Andrea
      DSP
                Microphone
      and Audio Software Products
            
            
            Andrea
      Anti-
                Noise
      Products
            
            
            Total
      2009 Nine
                Month
      Segment DataNet
      revenues from external customers
            
            $
            278,355
            
            
            $
            2,299,649
            
            
            $
            2,578,004License
      Revenues
            
            
            839,104
            
            
            
            -
            
            
            
            839,104Loss
      from operations
            
            
            163,822
            
            
            
            116,604
            
            
            
            280,426Depreciation
      and amortization
            
            
            353,457
            
            
            
            34,253
            
            
            
            387,710Purchases
      of property and equipments
            
            
            4,201
            
            
            
            28,831
            
            
            
            33,032Purchases
      of patents and trademarks
            
            
            10,570
            
            
            
            23,281
            
            
            
            33,8512008
      Nine Month Segment Data
            
            Andrea
      DSP
                Microphone
      and Audio Software Products
            
            
            Andrea
      Anti-
                Noise
      Products
            
            
            Total
      2008 Nine
                Month
      Segment DataNet
      revenues from external customers
            
            $
            620,254
            
            
            $
            1,939,879
            
            
            $
            2,560,133License
      Revenues
            
            
            857,715
            
            
            
            -
            
            
            
            857,715Loss
      from operations
            
            
            (162,028
            )
            
            
            (185,732
            )
            
            
            (347,760
            )Depreciation
      and amortization
            
            
            352,691
            
            
            
            27,534
            
            
            
            380,225Purchases
      of property and equipments
            
            
            8,616
            
            
            
            26,896
            
            
            
            35,512Purchases
      of patents and trademarks
            
            
            6,155
            
            
            
            29,097
            
            
            
            35,252





Management
assesses non-operating income statement data on a consolidated basis
only.  International revenues are based on the country in which the
end-user is located.  For the three-month periods ended September 30,
2009 and 2008, and as of each respective period-end, net revenues and accounts
receivable by geographic area are as follows:





Geographic
      Data
            
            September
      30, 2009
            
            
            September
      30, 2008Net
      revenues:United
      States
            
            $
            1,287,207
            
            
            $
            1,208,992Foreign(1)
            
            
            110,760
            
            
            
            74,965$
            1,397,967
            
            
            $
            1,283,957(1)
            Net
      revenues to any one foreign country did not exceed 10% of total net
      revenues for the three months ended September 30, 2009and
      September 30, 2008.





For the
nine-month periods ended September 30, 2009 and 2008, by geographic area, net
revenues are as follows:





Geographic
      Data
            
            September
      30, 2009
            
            
            September
      30, 2008Net
      revenues:United
      States
            
            $
            3,154,181
            
            
            $
            2,967,763Foreign(2)
            
            
            262,927
            
            
            
            450,085$
            3,417,108
            
            
            $
            3,417,848(2)
            Net
      revenues to any one foreign country did not exceed 10% of total net
      revenues for the nine months ended September 30, 2009 and September 30,
      2008.





As of
September 30, 2009, accounts receivable by geographic area is as
follows:





Geographic
      Data
            
            September
      30, 2009Accounts
      receivable:United States
            
            $
            383,928Foreign
            
            
            -$
            383,928




16





ITEM
      2.
            MANAGEMENT’S
      DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
      OPERATIONS




Overview





Our
mission is to provide the emerging “voice interface” markets with
state-of-the-art communications products that facilitate natural language,
human/machine interfaces.





Examples
of the applications and interfaces for which Andrea DSP Microphone and Audio
Software Products and Andrea Anti-Noise Products provide benefit include:
Internet and other computer-based speech; telephony communications; multi-point
conferencing; speech recognition; multimedia; multi-player Internet and CD ROM
interactive games; and other applications and interfaces that incorporate
natural language processing. We believe that end users of these applications and
interfaces will require high quality microphone and earphone products that
enhance voice transmission, particularly in noisy environments, for use with
personal computers, mobile personal computing devices, cellular and other
wireless communication devices and automotive communication systems. Our Andrea
DSP Microphone and Audio Software Products use “far-field” digital signal
processing technology to provide high quality transmission of voice where the
user is at a distance from the microphone. High quality audio communication
technologies will be required for emerging far-field voice applications, ranging
from continuous speech dictation, to Internet telephony and multiparty video
teleconferencing and collaboration, to natural language-driven interfaces for
automobiles, home and office automation and other machines and devices into
which voice-controlled microprocessors are expected to be introduced during the
next several years.




We
outsource to Asia high volume assembly for most of our products from purchased
components.  We assemble some low volume Andrea DSP Microphone and
Audio Software Products from purchased components. As sales of any particular
Andrea DSP Microphone and Audio Software Product increases, assembly operations
are transferred to a subcontractor in Asia.




Our
Critical Accounting Policies





Our
unaudited condensed consolidated financial statements and the notes to our
unaudited condensed consolidated financial statements contain information that
is pertinent to management's discussion and analysis.  The preparation
of financial statements in conformity with accounting principles generally
accepted in the United States requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosures of contingent assets and liabilities.  Management bases
its estimates on historical experience and on various other assumptions that are
believed to be reasonable under the circumstances, the results of which form the
basis for making judgments about the carrying values of assets and liabilities
that are not readily apparent from other sources.  On a continual
basis, management reviews its estimates utilizing currently available
information, changes in facts and circumstances, historical experience and
reasonable assumptions.  After such reviews, and if deemed
appropriate, those estimates are adjusted accordingly.  Actual results
may vary from these estimates and assumptions under different and/or future
circumstances.  Our significant accounting policies are described in
Note 2 of the Notes to Consolidated Financial Statements included in our Annual
Report on Form 10-K for the year ended December 31, 2008.  A
discussion of our critical accounting policies and estimates are included in
Management’s Discussion and Analysis or Plan of Operation in our Annual Report
on Form 10-K for the year ended December 31, 2008. Management has discussed the
development and selection of these policies with the Audit Committee of the
Company’s Board of Directors, and the Audit Committee of the Board of Directors
has reviewed the Company’s disclosures of these policies.  There have
been no material changes to the critical accounting policies or estimates
reported in the Management’s Discussion and Analysis section of the Annual
Report on Form 10K for the year ended December 31, 2008.





Cautionary
Statement Regarding Forward-Looking Statements





This
report contains forward-looking statements that are based on assumptions and may
describe future plans, strategies and expectations of the
Company.  These forward-looking statements are generally identified by
use of the words “believe”, “expect”, “intend”, “anticipate”, “estimate”,
“project” or similar expressions.  The Company’s ability to predict
results or the actual effect of future plans or strategies is inherently
uncertain. Factors which could have a material adverse effect on the operations
of the Company and its subsidiaries include, but are not limited to, changes in
economic, competitive, governmental, technological and other factors that may
affect our business and prospects.  Additional factors are discussed
below under “Risk Factors” and in Part I, “Item 1A – Risk Factors”in the Company’s Annual
Report on Form 10-K for the year ended December 31, 2008.  These risks
and uncertainties should be considered in evaluating forward-looking statements
and undue reliance should not be placed on such statements.  Except as
required by applicable law or regulation, the Company does not undertake, and
specifically disclaims any obligation, to release publicly the result of any
revisions that may be made to any forward-looking statements to reflect events
or circumstances after the date of the statements or to reflect the occurrence
of anticipated or unanticipated events.




17





Risk
Factors





Our
operating results are subject to significant fluctuation, period-to-period
comparisons of our operating results may not necessarily be meaningful and you
should not rely on them as indications of our future performance.





Our
results of operations have historically been and are subject to continued
substantial annual and quarterly fluctuations. The causes of these fluctuations
include, among other things:




–
            the
      volume of sales of our products under our collaborative marketing
      arrangements;




–
            the
      cost of development of our
products;




–
            the
      mix of products we sell;




–
            the
      mix of distribution channels we
use;




–
            the
      timing of our new product releases and those of our
      competitors;




–
            fluctuations
      in the computer and communications hardware and software marketplace;
      and




–
            general
      economic conditions.




We cannot
assure that the level of revenues and gross profit, if any, that we achieve in
any particular fiscal period will not be significantly lower than in other
fiscal periods.  Our net revenues for the three months ended September
30, 2009 were $1,397,967 compared to $1,283,957 for the three months ended
September 30, 2008.  Net income for the three months ended September
30, 2009 was $28,948, or $0.00 per share on a basic and diluted basis, and
$25,289, or $0.00 per share on a basic and diluted basis for the three months
ended September 30, 2008.  Our revenues for the nine months ended
September 30, 2009 were $3,417,108 compared to $3,417,848 for the nine months
ended September 30, 2008.  Net loss for the nine months ended
September 30, 2009 was $272,628 or $.00 loss per share on a basic and diluted
basis, compared to net loss of $344,874, or $.01 loss per share on a basic and
diluted basis for the nine months ended September 30, 2008. We continue to
explore opportunities to grow sales in other business areas; we are also
examining additional opportunities for cost reduction, production efficiencies
and further diversification of our business.  Although we have
improved cash flows by reducing overall expenses, if our revenues continue to
decline we may not continue to generate positive cash flows and our net income
or loss may be affected.





If
we fail to obtain additional capital or maintain access to funds sufficient to
meet our operating needs, we may be required to significantly reduce, sell, or
refocus our operations, and our business, results of operations and financial
condition could be materially and adversely effected.





In order
to be a viable entity we need to maintain and increase profitable
operations.  To continue to achieve profitable operations we need to
maintain or increase current net revenues and continue to look for ways to
control expenses.  We might also need to sell additional assets or
raise capital as a means of funding continued operations.  In recent
years, we have sustained significant operating losses.  We may have to
raise additional capital from external sources.  These sources may
include private or public financings through the issuance of debt, convertible
debt or equity, or collaborative arrangements.  Such additional
capital and funding may not be available on favorable terms, if at
all.  Additionally, we may only be able to obtain additional capital
or funds through arrangements that require us to relinquish rights to our
products, technologies or potential markets, in whole or in part, or result in
our sale.  As a result of the past few years of performance, we
believe that we have sufficient liquidity to continue our operations at least
through September 2010, provided our net revenues do not materially decline and
our operating expenses do not materially increase.  Although we have
revised our business strategies to reduce our expenses and capital expenditures,
we cannot assure you that we will be successful in generating positive cash
flows or obtaining access to additional sources of funding in amounts necessary
to continue our operations.  Failure to maintain sufficient access to
funding may also result in our inability to continue operations.





Shares
Eligible For Future Sale May Have An Adverse Effect On Market Price and Andrea
Shareholders May Experience Substantial Dilution.





Sales of a
substantial number of shares of our common stock in the public market could have
the effect of depressing the prevailing market price of our common
stock.  Of the 200,000,000 shares of common stock presently
authorized, 63,538,029 were outstanding as of November 13, 2009. The number of
shares outstanding does not include an aggregate of 28,289,997 shares of common
stock that are issuable.  This number of issuable common shares is
equal to approximately 45% of the 63,538,029 outstanding
shares.  These issuable common shares are comprised of:  a)
16,186,821 shares of our common stock reserved for issuance upon exercise of
outstanding awards granted under our 1991 Performance Equity Plan, 1998 Stock
Plan and 2006 Stock Plan; b) 6,267,936 shares reserved for future grants under
our 2006 Stock Plan; c) 2,206,664 shares of common stock that are issuable upon
conversion of the Series C Preferred Stock; and d) 3,628,576 shares of common
stock issuable upon conversion of the Series D Preferred Stock.




18




In
addition to the risk factors set forth above and the other information set forth
in this report, you should carefully consider the factors discussed in Part I,
“Item 1A – Risk
Factors” in the Company’s Annual Report on Form 10-K for the year ended
December 31, 2008, which could materially affect our business, financial
condition or future results. The risks described in this report and in our
Annual Report on Form 10-K are not the only risks that we face. Additional risks
and uncertainties not currently known to us or that we currently deem to be
immaterial also may materially adversely affect our business, financial
condition and/or operating results.





Results
Of Operations





Three
and Nine Months ended September 30, 2009 compared to Three and Nine Months ended
September 30, 2008





Net
Revenues




For
      the Three Months
                                                                                                                            Ended September
      30
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          For
      the Nine Months
                                                                                                                            Ended September
      302009
                                                                                                                          
                                                                                                                          
                                                                                                                          2008
                                                                                                                          
                                                                                                                          
                                                                                                                          %
                                                                                                                            Change
                                                                                                                          
                                                                                                                          
                                                                                                                          2009
                                                                                                                          
                                                                                                                          
                                                                                                                          2008
                                                                                                                          
                                                                                                                          
                                                                                                                          %
                                                                                                                            ChangeAndrea
      Anti-Noise Products net Product revenuesSales
      of products to an OEM customer for use with speech recognition
      software
                                                                                                                          
                                                                                                                          
                                                                                                                          -
                                                                                                                          
                                                                                                                          
                                                                                                                          $
                                                                                                                          190,143
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          (100
                                                                                                                          )
                                                                                                                          
                                                                                                                          $
                                                                                                                          233,003
                                                                                                                          
                                                                                                                          
                                                                                                                          $
                                                                                                                          313,243
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          (26
                                                                                                                          )
                                                                                                                          (a)Sales
      of products to OEM customers for use with educational software
                                                                                                                          
                                                                                                                          
                                                                                                                          307,985
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          200,692
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          53
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          571,321
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          442,876
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          29
                                                                                                                          
                                                                                                                          (b)Revenues
      related to LED headphone products
                                                                                                                          
                                                                                                                          
                                                                                                                          180,587
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          -
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          100
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          335,864
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          16,353
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          1,954
                                                                                                                          
                                                                                                                          (c)All
      other Andrea Anti-Noise net product revenues
                                                                                                                          
                                                                                                                          
                                                                                                                          459,702
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          397,695
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          16
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          1,159,461
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          1,167,407
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          (1
                                                                                                                          )Total
      Andrea Anti-Noise Products net Product revenues
                                                                                                                          
                                                                                                                          $
                                                                                                                          948,274
                                                                                                                          
                                                                                                                          
                                                                                                                          $
                                                                                                                          788,530
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          20
                                                                                                                          
                                                                                                                          
                                                                                                                          $
                                                                                                                          2,299,649
                                                                                                                          
                                                                                                                          
                                                                                                                          $
                                                                                                                          1,939,879
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          19Andrea
      DSP Microphone and Audio Software Products revenuesSales
      of array microphone products to an OEM
                                                                                                                            customer
                                                                                                                          
                                                                                                                          
                                                                                                                          -
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          -
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          -
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          -
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          107,800
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          (100
                                                                                                                          )
                                                                                                                          (d)Consulting
      revenue to an OEM Customer
                                                                                                                          
                                                                                                                          
                                                                                                                          -
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          75,000
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          (100
                                                                                                                          )
                                                                                                                          
                                                                                                                          
                                                                                                                          -
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          255,000
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          (100
                                                                                                                          )
                                                                                                                          (e)All
      other Andrea DSP Microphone and Audio product revenues
                                                                                                                          
                                                                                                                          
                                                                                                                          91,437
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          83,045
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          (42
                                                                                                                          )
                                                                                                                          
                                                                                                                          
                                                                                                                          278,355
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          287,454
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          (3
                                                                                                                          )License
      revenues
                                                                                                                          
                                                                                                                          
                                                                                                                          358,256
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          337,382
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          6
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          839,104
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          857,715
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          (2
                                                                                                                          )Total
      Andrea DSP Microphone and Audio Software Products revenues
                                                                                                                          
                                                                                                                          
                                                                                                                          449,693
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          495,427
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          (9
                                                                                                                          )
                                                                                                                          
                                                                                                                          
                                                                                                                          1,117,459
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          1,477,969
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          (24
                                                                                                                          )Total
      Revenues
                                                                                                                          
                                                                                                                          $
                                                                                                                          1,397,967
                                                                                                                          
                                                                                                                          
                                                                                                                          $
                                                                                                                          1,283,957
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          9
                                                                                                                          
                                                                                                                          
                                                                                                                          $
                                                                                                                          3,417,108
                                                                                                                          
                                                                                                                          
                                                                                                                          $
                                                                                                                          3,417,848
                                                                                                                          
                                                                                                                          
                                                                                                                          
                                                                                                                          -
  (a)
                                                                                                                            The
      decreases in sales of Andrea Anti-Noise Products is directly related to
      decreased purchases by an OEM customer for use with speech recognition
      software during the three and nine months ended September 30, 2009 as
      compared to the same periods in
2008.
 (b)
                                                                                                                            The
      increases in sales of products to OEM customers for use with educational
      software is a result of Andrea creating customized products to meet each
      of the OEM’s particular needs.
 (c)
                                                                                                                            The
      increases in revenues related to blinking LED earbud products are
      primarily associated with the initial sales of a custom retail product for
      an OEM customer.
 (d)
                                                                                                                            The
      decreases in sales of microphone array products to an OEM customer relates
      to the decreased demand from the OEM customer.  We believe that
      this decrease is the result of the OEM deciding not to continue bundling a
      microphone array with all applicable product models.  We do not
      expect any revenues from the OEM for this product in
  2009.
 (e)
                                                                                                                            The
      decrease in consulting revenue relates to an OEM customer selling the
      business line for which the consulting revenue
  related.


Cost of
Revenues





Cost of
revenues as a percentage of net revenues for the three months ended September
30, 2009 increased to 46% from 41% for the three months ended September 30,
2008.  The cost of revenues as a percentage of net revenues for the
three months ended September 30, 2009 for Andrea Anti-Noise Products is 62%
compared to 61% for the three months ended September 30, 2008.  The
cost of revenues as a percentage of net revenues for the three months ended
September 30, 2009 for the Andrea DSP Microphone and Audio Software Products is
13% compared to 10% for the three months ended September 30,
2008.  Cost of revenues as a percentage of net revenues for the nine
months ended September 30, 2009 and September 30, 2008 was 44%.  The
cost of revenues as a percentage of net revenues for the nine months ended
September 30, 2009 for Andrea Anti-Noise Products is 59% compared to 62% for the
nine months ended September 30, 2008.  The cost of revenues as a
percentage of net revenues for the nine months ended September 30, 2009 for
Andrea DSP Microphone and Audio Software Products is 14% compared to 19% for the
nine months ended September 30, 2008. The increase in cost of revenues as a
percentage of sales for the Andrea Anti-Noise Products for the three months
ending September 30, 2009 is a result of an increase in factory overhead
expenses.  The decrease in cost of revenues as a percentage of sales
for the Andrea Anti-Noise Products for the nine months ending September 30, 2009
is the result of a decrease in decreased factory overhead expenses in the first
six months of 2009 as compared to 2008.  The increase in cost of
revenues as a percentage of sales for Andrea DSP Microphone and Audio Software
Products for the three months ending September 30, 2009 is a result of the
decreased consulting revenue from an OEM customer.  The decrease in
cost of revenues as a percentage of sales for Andrea DSP Microphone and Audio
Software Products for the nine months ending September 30, 2009 is a result of
the decreased sales of array microphone products to an OEM
customer.




19





Research and
Development





Research
and development expenses for the three months ended September 30, 2009 decreased
17% to $148,913 from $179,062 for the three months ended September 30,
2008.  For the three months ended September 30, 2009, the decrease in
research and development expenses reflects a 36% decrease in our Andrea DSP
Microphone and Audio Software Technology efforts to $75,794, or 51% of total
research and development expenses, offset in part by a 19% increase in our
Andrea Anti-Noise Headset Product efforts to $73,119, or 49% of total research
and development expenses.  Research and development expenses for the
nine months ended September 30, 2009 decreased 21% to $441,279 from $557,807 for
the nine months ended September 30, 2008.  These decreases primarily
relate to decreases in employee compensation and related benefit
costs.  For the nine months ended September 30, 2009, the decrease in
research and development expenses reflects a 36% decrease in our Andrea DSP
Microphone and Audio Software Technology efforts to $239,141, or 54% of total
research and development expenses, offset in part by a 11% increase in our
Andrea Anti-Noise Headset Product efforts to $202,138, or 46% of total research
and development expenses.  With respect to DSP Microphone and Audio
Software technologies, research efforts are primarily focused on the pursuit of
commercializing a natural language-driven human/machine interface by developing
optimal far-field microphone solutions for various voice-driven interfaces,
incorporating Andrea’s digital super directional array microphone technology,
and certain other related technologies such as noise suppression and stereo
acoustic echo cancellation.  We believe that continued research and
development spending should provide Andrea with a competitive
advantage.





General, Administrative and
Selling Expenses





General,
administrative and selling expenses increased approximately 4% to $578,165 for
the three months ended September 30, 2009 from $555,326 for the three months
ended September 30, 2008.  For the three months ended September 30,
2009, the increase reflects a 6% decrease in our Andrea DSP Microphone and Audio
Software Technology efforts to $281,262, or 49% of total general, administrative
and selling expenses and a 16% increase in our Andrea Anti-Noise Headset Product
efforts to $296,903, or 51% of total general, administrative and selling
expenses.  General, administrative and selling expenses increased
approximately 2% to $1,751,244 for the nine months ended September 30, 2009 from
$1,721,773 for the nine months ended September 30, 2008.  For the nine
months ended September 30, 2009, the increase reflects a 10% decrease in our
Andrea DSP Microphone and Audio Software Technology efforts to $881,673, or 50%
of total general, administrative and selling expenses and a 17% increase in our
Andrea Anti-Noise Headset Product efforts to $869,571, or 50% of total general,
administrative and selling expenses.





Interest Income,
net





Interest
income, net for the three months ended September 30, 2009 was $4,782 compared to
$2,031 for the three months ended September 30, 2008. Interest income, net for
the nine months ended September 30, 2009 was $9,718 compared to $6,602 for the
nine months ended September 30, 2008.  The year to date increase in
interest income is the result of increased interest earned on higher cash
balances in 2009.





Provision for Income
Taxes





The
provision for income taxes the three months ended September 30, 2009 was $355
compared to a provision for income taxes of $0 for the three months ended
September 30, 2008.  The provision for income taxes for the nine
months ended September 30, 2009 was $1,920 compared to a provision for income
taxes of $3,716 for the nine months ended September 30, 2008.  The
decrease is a result of a decrease of certain licensing revenues that are
subject to withholding of income tax as mandated by the foreign jurisdiction in
which the revenues are earned.





Net Income
(loss)





Net income
for the three months ended September 30, 2009 was $28,948 compared to net income
of $25,289 for the three months ended September 30, 2008.  Net loss
for the nine months ended September 30, 2009 was $272,628 compared to net loss
of $344,874 for the nine months ended September 30, 2008.  The net
income for the three months ended September 30, 2009 and September 30, 2008 and
the net loss for the nine months ended September 30, 2009 and September 30, 2008
principally reflects the factors described above.




20





Off-Balance Sheet
Arrangements





The
Company has no off-balance sheet arrangements that have or are reasonably likely
to have a current or future effect on its financial condition, changes in
financial condition, revenues or expenses, results of operations, liquidity,
capital expenditures or capital resources that are material to
investors.





Liquidity
And Capital Resources





Andrea’s
principal sources of funds are and are expected to continue to be gross cash
flows from operations.  At September 30, 2009, we had cash of
$2,252,795 compared with $1,006,951 at December 31, 2008.  The cash
balance at September 30, 2009 is primarily a result of our cash provided from
operations.





Our
working capital balance at September 30, 2009 was $2,504,997 compared to a
working capital balance of $2,196,689 at December 31, 2008.  The
increase in working capital reflects an increase in total current assets of
$808,920 coupled with an increase in total current liabilities of
$500,612.  The increase in total current assets reflects an increase
in cash of $1,245,844, a decrease in accounts receivable of $420,505, a decrease
in inventory of $87,086, an increase in short term customer deposit of $93,168
and a decrease in prepaid expenses and other current assets of
$22,501.  The decrease in accounts receivable is a result of timing of
revenues and subsequent collection.  The increase in short term
customer deposit and short term deferred revenue is related to a deposit for a
product for one of our customers.  The increase in total current
liabilities reflects an increase in trade accounts payable of $460,561, an
increase in short-term deferred revenue of $83,168, a decrease of $69,306 in
accrued Series C Preferred Stock dividends and an increase of $95,495 in other
current liabilities. The increase in cash of $1,245,844 reflects $1,312,727 of
net cash provided by operating activities, and $66,883 of net cash used in
investing activities.





The cash
provided by operating activities of $1,312,727, excluding non-cash charges for
the nine months ended September 30, 2009, is attributable to a $420,505 decrease
in accounts receivable, a $133,258 decrease in inventory, a $93,168 increase in
short term customer deposits, a $22,501 decrease in prepaid expenses and other
current assets, a $460,561 decrease in accounts payable, a $83,168 increase in
short-term deferred revenue, a $69,306 decrease in accrued Series C Preferred
Stock dividends and a $95,495 increase in other current and long-term
liabilities.  The changes in receivables, inventory, prepaid expenses
and accounts payable primarily reflect differences in the timing related to both
the payments for and the acquisition of inventory as well as for other services
in connection with ongoing efforts related to Andrea’s various product
lines.





The cash
used in investing activities of $66,883 reflects $33,032 in purchases of
property and equipment and $33,851 of payments related to patents and
trademarks.  The increase in property and equipment reflects capital
expenditures associated with information technology purchases as well as molds
associated with our Andrea Anti-Noise Headset Products.  The increase
in patents and trademarks reflects capital expenditures associated with our
intellectual property.





We plan to
continue to improve our cash flows in 2009 by aggressively pursuing additional
licensing opportunities related to our Andrea DSP Audio Software and increasing
the sales of our Andrea Anti-Noise Headset Products through the introduction of
a refreshed product line introduced in the latter part of 2008 as well as the
increased efforts into our sales and marketing efforts.  However,
there can be no assurance that we will be able to successfully execute the
aforementioned plans.  As of November 13, 2009, Andrea has
approximately $2,000,000 of cash deposits.  We believe that we have
sufficient liquidity available to continue in operation through at least
September 2010.  To the extent that we do not generate sufficient cash
flows from our operations in the next twelve months, additional financing might
be required.  Although we have improved cash flows by reducing overall
expenses, if our revenues decline, these reductions may impede our ability to be
cash flow positive and our net income or loss may be disproportionately
affected.  We have no commitment for additional financing and may
experience difficulty in obtaining additional financing on favorable terms, if
at all.  Any financing we obtain may contain covenants that restrict
our freedom to operate our business or may have rights, preferences or
privileges senior to our common stock and may dilute our current shareholders’
ownership interest in Andrea. We cannot assure that demand will continue for any
of our products, including future products related to our Andrea DSP Microphone
and Audio Software technologies, or, that if such demand does exist, that we
will be able to obtain the necessary working capital to increase production and
provide marketing resources to meet such demand on favorable terms, or at
all.




Recently
Issued Accounting Pronouncements
  For a
discussion of the impact of recent accounting pronouncements, see Note 2 of the
accompanying condensed consolidated financial statements.
  ITEM
      3.
                QUANTITATIVE
      AND QUALITATIVE DISCLOSURES ABOUT MARKET
RISK


Not
Applicable.




21





ITEM
      4.
                CONTROLS
      AND PROCEDURES


Andrea’s
management, including its principal executive officer and principal financial
officer, have evaluated the effectiveness of the Company’s “disclosure controls
and procedures,” as such term is defined in Rule 13a-15(e) promulgated under the
Securities Exchange Act of 1934, as amended, (the “Exchange Act”). Based upon
their evaluation, the principal executive officer and principal financial
officer concluded that, as of the end of the period covered by this report,
Andrea’s disclosure controls and procedures were effective for the purpose of
ensuring that the information required to be disclosed in the reports that it
files or submits under the Exchange Act with the Securities and Exchange
Commission (the “SEC”) (1) is recorded, processed, summarized and reported
within the time periods specified in the SEC’s rules and forms, and (2) is
accumulated and communicated to Andrea’s management, including its principal
executive and principal financial officers, as appropriate to allow timely
decisions regarding required disclosure.




A control
system, no matter how well conceived and operated, can provide only reasonable,
not absolute, assurance that all control issues and instances of fraud, if any,
within a company have been detected.  Andrea’s disclosure controls and
procedures are designed to provide reasonable assurance of achieving its
objectives.




There have
been no changes in the Company’s internal controls over financial reporting that
have materially affected, or are reasonable likely to materially affect the
Company’s internal controls over financial reporting during the period covered
by this Quarterly Report.


PART
      II
                  OTHER
      INFORMATION


ITEM
      1.
                  LEGAL
      PROCEEDINGS


None.




ITEM
      1A.
            RISK
      FACTORS




Not
Applicable.


ITEM
      2.
              UNREGISTERED
      SALES OF EQUITY SECURITY AND USE OF
PROCEEDS





None.




ITEM
      3.
              DEFAULTS
      UPON SENIOR SECURITIES




None.




ITEM
      4.
              SUBMISSION
      OF MATTERS TO A VOTE OF SECURITIES
HOLDERS




On July
24, 2009, at the Annual Meeting of Shareholders of the Company, the shareholders
elected as directors of the Company for terms of one year, the following
individuals:  Douglas J. Andrea (40,485,913 shares for, 9,126,043
shares withheld); Gary A. Jones (27,231,245 shares for, 22,380,711 shares
withheld); Louis Libin (27,215,170 shares for, 22,396,786 shares withheld);
Joseph J. Migliozzi (27,178,886 shares for, 22,433,070 shares withheld);
Jonathan D. Spaet (27,190,942 shares for, 22,421,014 shares
withheld).  The  shareholders approved the amendment to the
Andrea Electronics Corporation 2006 Equity Compensation Plan to increase the
number of shares of Company common stock issuable thereunder (11,454,872 shares
for, 7,325,108 shares against, 147,380 shares abstained and 30,684,596 broker
non-votes).  In addition, the shareholders ratified the selection of
Marcum LLP as the Company's independent registered public accountants for the
year ended December 31, 2009 (46,697,264 shares for, 2,594,184 shares against,
and 320,508 shares abstained).  Lastly, the shareholder proposal
presented at the meeting, having not received the affirmative vote of at least a
majority of the votes cast by shareholders, was not approved by shareholders
(8,179,792 shares for, 10,376,683 shares against, 370,705 shares abstained and
30,684,596 broker non-votes).


ITEM
      5.
              OTHER
      INFORMATION


None.


ITEM
      6.
              EXHIBITS




a)
            Exhibits




Exhibit 31
– Rule 13a-14(a)/15d-14(a) Certifications*




Exhibit 32
– Section 1350 Certifications*




* Filed
herewith





22





SIGNATURES




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




ANDREA
      ELECTRONICS CORPORATIONBy:
            /s/
      DOUGLAS J. ANDREAName:Douglas J. AndreaTitle:Chairman of the Board, President, Chief
              Executive
      Officer and Corporate
Secretary











Date:
      November 16, 2009/s/
      DOUGLAS J. ANDREA
            Chairman
      of the Board, President, Chief
            November
      16, 2009Douglas
      J. Andrea
            Executive
      Officer and Corporate Secretary/s/
      CORISA L. GUIFFRE
            Vice
      President, Chief Financial Officer and
            November
      16, 2009Corisa
      L. Guiffre
            Assistant
      Corporate Secretary






23