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U.S. SECURITIES AND EXCHANGE COMMISSION
 Washington, DC 20549
 FORM 10-KSB
 þ
    
    ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 For the fiscal year ended: DECEMBER 31, 2006
 o
    
    TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 For the transition period from ___to ___
 Commission file number: 0-28484
 QUALMARK CORPORATION
 (Name of small business issuer in its charter)
 Colorado
    
    84-1232688(State or other jurisdiction of
    
    (IRS Employerincorporation or organization)
    
    Identification No.)
 4580 Florence Street, Denver, Colorado 80238  (Address of principal executive offices, including zip code)
 (303) 254-8800  (Registrants Telephone Number, including area code)
 Securities Registered Pursuant to Section 12(b) of the Exchange Act: None
 Securities Registered Pursuant to Section 12(g) of the Exchange Act:
 COMMON STOCK (NO PAR VALUE)
 o
 o þ
 þ
 o þ
    DOCUMENTS INCORPORATED BY REFERENCE
  o þ




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TABLE OF CONTENTS  PART IITEM 1. DESCRIPTION OF BUSINESSITEM 2. DESCRIPTION OF PROPERTYITEM 3. LEGAL PROCEEDINGSITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.PART IIITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERSITEM 7. FINANCIAL STATEMENTS.ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE.ITEM 8A. CONTROLS AND PROCEDURESITEM 8B. OTHER INFORMATIONPART IIIITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS; COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ACT.ITEM 10. EXECUTIVE COMPENSATIONITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENTITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONSITEM 13. EXHIBITSITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICESSIGNATURESLoan and Security AgreementFifth Amendment to Loan and Security AgreementConsent of GHP Horwath, P.C.Certification of CEO Pursuant to Section 302Certification of CFO Pursuant to Section 302Certifications Pursuant to Section 906    Table of Contents  
 PART I
 
 ITEM 1. DESCRIPTION OF BUSINESS.
  HALT/HASS Business Segment (HALT/HASS):
     Electrodynamic Business Segment (ED):
  - 2 -




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About ACG:
     About Ling:
  - 3 -




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PRODUCTS AND SERVICES
 HALT/HASS SEGMENT:
 THE TYPHOON COMBINED STRESS SYSTEM
          TYPHOON TECHNOLOGY
  - 4 -




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QUALMARK ENGINEERING SERVICES (QES)
  -
    
    HALT and HASS testing procedure development-
    
    Precision production fixturing solutions
  ACCELERATED RELIABILITY TEST CENTERS (ARTC)
      ED SEGMENT :
 QUALMARK ACG CORPORATION (ACG)
  - 6 -




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QUALMARK LING CORPORATION (LING)
         MARKETING
    - 7 -




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1.
    
    The Company continued to see strength in our key market verticals, including the entry
into new segments.2.
    
    The Company saw strong growth in Europe during 2006, and progress for the Western U.S.3.
    
    The Company expanded its infrastructure of field sales and support partners, giving the
Company continuous and qualified coverage in our key geographies. The remaining coverage
holes are expected to be addressed during 2007.4.
    
    The Company expanded its HASS presence by converting HALT customers to production
oriented HASS testing.6.
    
    The Company expanded its presence into over 35 countries, up from 30 in 2005.
 SALES STRATEGY
  CUSTOMERS
   AEROSPACE AND DEFENSE
 
 COMPUTER RELATED PRODUCTS
 
 - 8 -




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OTHER
 
 TELECOMMUNICATIONS
 
 MEDICAL ELECTRONICS
 
 CONSUMER ELECTRONICS
 
 RESEARCH AND PRODUCT DEVELOPMENT
    - 9 -




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INTELLECTUAL PROPERTY
        COMPETITION
 HALT/HASS SEGMENT:
   1.
    
    Thermotron Industries, Michigan2.
    
    Envirotronics, Michigan3.
    
    Screening Systems, Inc., California4.
    
    HALT/HASS, Inc., Colorado5.
    
    Hanse Industries, Colorado6.
    
    ACS, Italy
  - 10 -




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1.
    
    Thermotron Industries, Michigan2.
    
    Reliant Labs, California3.
    
    Sypris Test and Measurement, Massachusetts4.
    
    Environ Laboratories, Minnesota5.
    
    Trace Laboratories, Illinois
 ED SEGMENT:
 Qualmark ACG Corporation:
   1.
    
    Dynamic Solutions, California2.
    
    CVMS, United Kingdom
 Qualmark Ling Corporation:
   1.
    
    Unholtz Dickie, Connecticut2.
    
    LDS, United Kingdom3.
    
    TIRA, Germany4.
    
    MB Electronics, Ohio5.
    
    Dynamic Solutions, China6.
    
    King Design, Taiwan
 - 11 -




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MANUFACTURING
 HALT/HASS SEGMENT:
     ED SEGMENT:
 Qualmark ACG Corporation and Qualmark Ling Corporation (Ling/ACG)
    - 12 -




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PRODUCT WARRANTIES AND SERVICE
  GOVERNMENT REGULATION
  EMPLOYEES
  AVAILABLE INFORMATION
  
 ITEM 2. DESCRIPTION OF PROPERTY.
   - 13 -




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Investment Policies
  
 ITEM 3. LEGAL PROCEEDINGS
  
 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
  
 PART II
 
 ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
  Fiscal Year Ended December 31, 2006High Close
    
    Low CloseFirst Fiscal Quarter
    
    $
    2.200
    
    
    $
    1.730Second Fiscal Quarter
    
    
    2.380
    
    
    
    1.620Third Fiscal Quarter
    
    
    1.930
    
    
    
    1.600Fourth Fiscal Quarter
    
    
    1.700
    
    
    
    1.300
 Fiscal Year Ended December 31, 2005High Close
    
    Low CloseFirst Fiscal Quarter
    
    $
    3.100
    
    
    $
    1.950Second Fiscal Quarter
    
    
    3.250
    
    
    
    2.400Third Fiscal Quarter
    
    
    3.050
    
    
    
    1.950Fourth Fiscal Quarter
    
    
    2.480
    
    
    
    1.720
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ITEM 6. MANAGEMENTS DISCUSSION AND ANALYSIS
  Fiscal Year EndedDecember 31, 2006
    
    December 31, 2005Statements of Income DateRevenues
    
    
    100.0
    %
    
    
    100.0
    %Cost of revenues
    
    
    57.6
    
    
    
    54.9Gross profit
    
    
    42.4
    
    
    
    45.1Selling, general and administrative expenses
    
    
    29.2
    
    
    
    30.1Research and development expenses
    
    
    4.8
    
    
    
    5.1Income from operations
    
    
    8.4
    
    
    
    9.9Other expense
    
    
    (1.9
    )
    
    
    (0.9
    )Income before income taxes
    
    
    6.5
    
    
    
    9.0Income tax benefit
    
    
    0.5
    
    
    
    5.1Net income
    
    
    7.0
    %
    
    
    14.1
    %
 FORWARD-LOOKING STATEMENTS
  RESULTS OF OPERATIONS
   REVENUE
  HALT/HASS Revenue:
  - 15 -




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Electrodynamic Revenue (ED):
  GROSS MARGIN
  OPERATING EXPENSE
    - 16 -




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INTEREST EXPENSE
  INCOME TAX
    NET INCOME
  LIQUIDITY AND CAPITAL RESOURCES
   - 17 -




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Term Loans and Revolving Line of Credit:
   Convertible Debt:
  - 18 -




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Year endedDecember 31,2007
    
    $
    9132008
    
    
    6672009 (November)
    
    
    960$
    2,540
 - 19 -




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Other Contractual Obligations
  Year ended
    
    OperatingDecember 31,
    
    Leases2007
    
    $
    2622008
    
    
    2382009
    
    
    1842010
    
    
    77$
    761
      Revenue Recognition
  Allowance for Doubtful Accounts
  Warranty Reserve
  Inventory Obsolescence Reserve
  - 20 -




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Goodwill and Other Intangible Assets
  Long-lived Assets
  Share-based Compensation
  Deferred Tax Assets and Valuation Allowance
  - 21 -




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Government Regulation
  Legal Proceedings
  Business Environment
  
    - 22 -




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Suppliers
  International Operations
  Intellectual Property
  Acquisitions
  - 23 -




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QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
  
 ITEM 7. FINANCIAL STATEMENTS.
  Page NumberReport of Independent Registered Public Accounting Firm
    
    F-1Consolidated Statements of Income
    
    F-2Consolidated Balance Sheets
    
    F-3Consolidated Statements of Shareholders Equity
    
    F-4Consolidated Statements of Cash Flows
    
    F-5Notes to Consolidated Financial Statements
    
    F-7
 
 ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE.
  
 ITEM 8A. CONTROLS AND PROCEDURES
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ITEM 8B. OTHER INFORMATION
  
 PART III
 
 ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS; COMPLIANCE WITH SECTION 16(a)
OF THE EXCHANGE ACT.
          
 ITEM 10. EXECUTIVE COMPENSATION.
  
 ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
  
 ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
  
 ITEM 13. EXHIBITS
    - 25 -




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ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
  - 26 -




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SIGNATURES
  Dated: March 30, 2007
    QUALMARK CORPORATIONBy:
    /s/ CHARLES D. JOHNSTONCharles D. Johnston,President and Chief Executive Officer  Signature
    
    Title
    
    Date/s/ Charles D. Johnston
    
    President, Chief Executive
    
    March 30, 2007Charles D. Johnston
    
    Officer and Director/s/ Anthony A. Scalese
    
    Chief Financial Officer and
    
    March 30, 2007Anthony A. Scalese
    
    Principal Accounting Officer/s/ James L.D. Roser
    
    Director
    
    March 30, 2007James L.D. Roser/s/ William J. Sanko
    
    Director
    
    March 30, 2007William J. Sanko/s/ Christopher Roser
    
    Director
    
    March 30, 2007Christopher Roser/s/ Gerald Laber
    
    Director
    
    March 30, 2007Gerald Laber
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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
 
      
 F - 1




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QUALMARK CORPORATION AND SUBSIDIARIES
 CONSOLIDATED STATEMENTS OF INCOME  (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
 Years EndedDecember 31,2006
    
    
    2005Revenues
    
    $
    16,427
    
    
    $
    14,845Cost of revenues
    
    
    9,469
    
    
    
    8,144Gross profit
    
    
    6,958
    
    
    
    6,701Selling, general and administrative expenses
    
    
    4,795
    
    
    
    4,472Research and development expenses
    
    
    784
    
    
    
    752Total operating expenses
    
    
    5,579
    
    
    
    5,224Income from operations
    
    
    1,379
    
    
    
    1,477Other income (expense):Interest expense
    
    
    (341
    )
    
    
    (151
    )Interest income and other
    
    
    22
    
    
    
    11Income before income taxes
    
    
    1,060
    
    
    
    1,337Income tax benefit
    
    
    91
    
    
    
    751Net income
    
    $
    1,151
    
    
    $
    2,088Net income per basic common share (Note 1)
    
    $
    0.14
    
    
    $
    0.37Net income per diluted common share (Note 1)
    
    $
    0.11
    
    
    $
    0.25Weighted average shares outstanding  basic
    
    
    5,981
    
    
    
    4,266Weighted average shares outstanding  diluted
    
    
    10,758
    
    
    
    8,851
 F - 2




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QUALMARK CORPORATION AND SUBSIDIARIES
 CONSOLIDATED BALANCE SHEETS  (IN THOUSANDS, EXCEPT FOR NUMBER OF SHARES)
 December 31,2006
    
    
    2005ASSETSCurrent assets:Cash and cash equivalents
    
    $
    1,179
    
    
    $
    529Trade accounts and note receivable, net of allowance of $50 and $51,
respectively, for doubtful accounts
    
    
    3,420
    
    
    
    3,478Inventories, net
    
    
    2,524
    
    
    
    2,888Current deferred tax assets, net
    
    
    943
    
    
    
    515Other current assets
    
    
    143
    
    
    
    82Total current assets
    
    
    8,209
    
    
    
    7,492Property and equipment, net
    
    
    787
    
    
    
    922Restricted cash
    
    
    90
    
    
    
    90Goodwill
    
    
    1,057
    
    
    
    1,057Intangible assets
    
    
    1,012
    
    
    
    728Non-current deferred tax assets, net
    
    
    430
    
    
    
    738Other assets
    
    
    464
    
    
    
    513$
    12,049
    
    
    $
    11,540LIABILITIES AND SHAREHOLDERS EQUITYCurrent liabilities:Accounts payable
    
    $
    719
    
    
    $
    684Accrued expenses
    
    
    682
    
    
    
    1,019Deferred revenue
    
    
    18
    
    
    
    49Current portion of long-term debt
    
    
    913
    
    
    
    917Revolving line of credit
    
    
    1,100
    
    
    
    700Total current liabilities
    
    
    3,432
    
    
    
    3,369Deferred revenue
    
    
    23
    
    
    
    35Long-term debt
    
    
    1,627
    
    
    
    2,579Other liabilities
    
    
    6
    
    
    
    20Total liabilities
    
    
    5,088
    
    
    
    6,003Commitments and contingenciesConvertible redeemable preferred stock; 2,000,000 shares authorized (Note 9):1,000,000 designated as Series B, 740,736 shares (2005) issued and outstanding
    
    
    
    
    
    
    1,6273,000 designated as Series C, 1,297 shares (2005) issued and outstanding
    
    
    
    
    
    
    1,166Shareholders equity:Common stock; no par value; 15,000,000 shares authorized; 8,779,362 shares
(2006) and 4,417,706 shares (2005) issued and outstanding
    
    
    10,409
    
    
    
    7,343Accumulated deficit
    
    
    (3,448
    )
    
    
    (4,599
    )Total shareholders equity
    
    
    6,961
    
    
    
    2,744$
    12,049
    
    
    $
    11,540
  F - 3




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QUALMARK CORPORATION AND SUBSIDIARIES
 CONSOLIDATED STATEMENTS OF SHAREHOLDERS EQUITY (IN THOUSANDS, EXCEPT FOR NUMBER OF SHARES)
 Common Stock
    
    
    AccumulatedShares
    
    
    Amount
    
    
    Deficit
    
    
    TotalBalance January 1, 2005
    
    
    4,133,348
    
    
    $
    7,768
    
    
    $
    (6,687
    )
    
    $
    1,081Options and warrants exercised
    
    
    284,358
    
    
    
    69
    
    
    
    
    
    
    
    69Preferred stock dividends
    
    
    
    
    
    
    (230
    )
    
    
    
    
    
    
    (230
    )Accretion of redeemable preferred stock
    
    
    
    
    
    
    (264
    )
    
    
    
    
    
    
    (264
    )Net income
    
    
    
    
    
    
    
    
    
    
    2,088
    
    
    
    2,088Balance December 31, 2005
    
    
    4,417,706
    
    
    $
    7,343
    
    
    $
    (4,599
    )
    
    $
    2,744Conversion of convertible, redeemable preferred stock to common stock
    
    
    4,262,044
    
    
    
    3,132
    
    
    
    
    
    
    
    3,132Common stock issued for interest on convertible debt
    
    
    41,351
    
    
    
    75
    
    
    
    
    
    
    
    75Options exercised
    
    
    34,165
    
    
    
    30
    
    
    
    
    
    
    
    30Conversion of convertible debt to common stock
    
    
    24,096
    
    
    
    40
    
    
    
    
    
    
    
    40Preferred stock dividends
    
    
    
    
    
    
    (156
    )
    
    
    
    
    
    
    (156
    )Accretion of redeemable preferred stock
    
    
    
    
    
    
    (183
    )
    
    
    
    
    
    
    (183
    )Stock-based compensation expense
    
    
    
    
    
    
    114
    
    
    
    
    
    
    
    114Excess tax benefits from share-based payment arrangements
    
    
    
    
    
    
    14
    
    
    
    
    
    
    
    14Net income
    
    
    
    
    
    
    
    
    
    
    1,151
    
    
    
    1,151Balance December 31, 2006
    
    
    8,779,362
    
    
    $
    10,409
    
    
    $
    (3,448
    )
    
    $
    6,961
  F - 4




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QUALMARK CORPORATION AND SUBSIDIARIES
 CONSOLIDATED STATEMENTS OF CASH FLOWS  (IN THOUSANDS)
 Years Ended December 31,2006
    
    
    2005CASH FLOWS FROM OPERATING ACTIVITIESNet income
    
    $
    1,151
    
    
    $
    2,088Adjustments to reconcile net income to net cash provided by operating
activities:Change in provision for inventory allowance
    
    
    (58
    )
    
    
    1Change in provision for accounts receivable allowance
    
    
    (1
    )
    
    
    1Depreciation and amortization
    
    
    360
    
    
    
    337Stock-based compensation expense
    
    
    114
    
    
    
    Gain on sale of assets
    
    
    (1
    )
    
    
    Deferred tax benefit
    
    
    (106
    )
    
    
    (780
    )Excess tax benefits from share-based payment arrangements
    
    
    (14
    )
    
    
    Paid in kind (common stock) interest expense
    
    
    75
    
    
    
    Changes in assets and liabilities, net of business acquisitions (2005):Trade accounts receivable
    
    
    59
    
    
    
    (731
    )Inventories
    
    
    110
    
    
    
    (480
    )Other assets
    
    
    (26
    )
    
    
    (263
    )Accounts payable
    
    
    35
    
    
    
    4Accrued expenses
    
    
    (337
    )
    
    
    (40
    )Customer deposits and deferred revenue
    
    
    (43
    )
    
    
    (53
    )Other liabilities
    
    
    (14
    )
    
    
    7Net cash provided by operating activities
    
    
    1,304
    
    
    
    91CASH FLOWS FROM INVESTING ACTIVITIESCash paid for acquisition of Ling Electronics
    
    
    
    
    
    
    (2,325
    )Sale of property and equipment
    
    
    27
    
    
    
    Acquisition of property and equipment
    
    
    (206
    )
    
    
    (288
    )Investment in patents, copyrights, and trademarks
    
    
    (3
    )
    
    
    Net cash used in investing activities
    
    
    (182
    )
    
    
    (2,613
    )CASH FLOWS FROM FINANCING ACTIVITIESIssuance of common stock upon exercise of options and warrants
    
    
    30
    
    
    
    69Proceeds from borrowings
    
    
    400
    
    
    
    2,700Repayments of borrowings
    
    
    (916
    )
    
    
    (234
    )Excess tax benefits from share-based payment arrangements
    
    
    14
    
    
    
    Net cash (used in) provided by financing activities
    
    
    (472
    )
    
    
    2,535Net increase in cash and cash equivalents
    
    
    650
    
    
    
    13Cash and cash equivalents at beginning of year
    
    
    529
    
    
    
    516Cash and cash equivalents at end of year
    
    $
    1,179
    
    
    $
    529SUPPLEMENTAL DISCLOSUREInterest paid
    
    $
    285
    
    
    $
    131Income tax paid
    
    $
    30
    
    
    $
    28NON-CASH INVESTING AND FINANCING ACTIVITIESConversion of convertible redeemable preferred stock to common stock
    
    $
    3,132
    
    
    $
    Transfer of equipment to inventory held for resale
    
    $
    49
    
    
    $
    20Preferred stock dividends
    
    $
    156
    
    
    $
    230Accretion of redeemable preferred stock
    
    $
    183
    
    
    $
    264Conversion of convertible debt to common stock
    
    $
    40
    
    
    $
    Capital lease obligations
    
    $
    6
    
    
    $
    20Purchase price reallocation from inventory to trade name (Note 15)
    
    $
    361
    
    
    $
    
  F - 5




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QUALMARK CORPORATION AND SUBSIDIARIES
 CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)  (IN THOUSANDS)
 Acquisition of Ling Electronics (2005):Assets acquired:Inventory
    
    $
    1,639Property and equipment
    
    
    68Vendor tooling
    
    
    240Trade name and symbol
    
    
    488Liabilities assumed:Warranty
    
    
    (106
    )Closing costs
    
    
    (4
    )Net assets acquired  cash paid
    
    $
    2,325
  F - 6




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QUALMARK CORPORATION AND SUBSIDIARIES
 NOTES TO CONSOLDIATED FINANCIAL STATEMENTS
 1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
 ORGANIZATION
  HALT/HASS Business Segment (HALT/HASS):
     Electrodynamic Business Segment (ED):
   F - 7




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BASIS OF PRESENTATION
  CASH AND CASH EQUIVALENTS
  CONCENTRATION OF CREDIT RISK
  INVENTORIES
  PROPERTY AND EQUIPMENT
  GOODWILL AND OTHER INTANGIBLE ASSETS
   F - 8




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LONG-LIVED ASSETS
  REVENUE RECOGNITION
  RESEARCH AND DEVELOPMENT
  ADVERTISING EXPENSE
  INCOME TAXES
  PRODUCT WARRANTIES
  FINANCIAL INSTRUMENTS
   F - 9




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EARNINGS PER SHARE
    Years EndedDecember 31,2006
    
    
    2005BASIC:Net income
    
    $
    1,151
    
    
    $
    2,088Accretion of redeemable preferred stock
    
    
    (156
    )
    
    
    (264
    )Preferred stock dividends
    
    
    (183
    )
    
    
    (230
    )Net income applicable to common shareholders-basic
    
    $
    812
    
    
    $
    1,594Weighted average shares outstanding  basic
    
    
    5,981
    
    
    
    4,266Net income per share  basic
    
    $
    0.14
    
    
    $
    0.37DILUTED:Net income
    
    $
    1,151
    
    
    $
    2,088Interest expense from convertible debt
    
    
    75
    
    
    
    80Net income applicable to common shareholders-diluted
    
    $
    1,226
    
    
    $
    2,168Weighted average shares outstanding  basic
    
    
    5,981
    
    
    
    4,266Dilutive securities
    
    
    4,777
    
    
    
    4,585Weighted average shares outstanding  diluted
    
    
    10,758
    
    
    
    8,851Net income per share  diluted
    
    $
    0.11
    
    
    $
    0.25
   USE OF ESTIMATES
   F - 10




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SHIPPING AND HANDLING FEES AND COSTS
  COMPREHENSIVE INCOME
  RECLASSIFICATIONS
  STOCK-BASED COMPENSATION
   Year EndedDecember 31, 2005Net income applicable to common shareholders
    
    $
    1,594ADD: Stock-based employee compensation expense
included in reported net loss, net of related tax
effects
    
    
    DEDUCT: Total stock-based employee compensation
expense determined under fair value based method for
all awards, including awards issued in prior periods
which vested in the current periods, net of related
tax effects
    
    
    (186
    )Pro forma net income
    
    $
    1,408Income per share:Basic  as reported
    
    $
    0.37Diluted  as reported
    
    $
    0.25Basic  pro forma
    
    $
    0.33Diluted  pro forma
    
    $
    0.22
 RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
 The Fair
Value Option for Financial Assets and Financial Liabilities  Including an amendment to FASB
Statement No. 115.
  F - 11




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##### Table of Contents



Fair Value Measurement
  Accounting for Uncertainty in Income
Taxes, an interpretation of FASB Statement 109
 2. INVENTORIES
  December 31,2006
    
    
    2005Raw materials
    
    $
    2,098
    
    
    $
    2,368Work in process
    
    
    250
    
    
    
    496Finished goods
    
    
    370
    
    
    
    276Less: Reserve for obsolescence
    
    
    (194
    )
    
    
    (252
    )$
    2,524
    
    
    $
    2,888
    F - 12




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##### Table of Contents



3. PROPERTY AND EQUIPMENT
  December 31,2006
    
    
    2005Machinery and equipment
    
    $
    2,076
    
    
    $
    2,237Furniture and fixtures
    
    
    107
    
    
    
    118Leasehold improvements
    
    
    216
    
    
    
    387Software
    
    
    164
    
    
    
    1532,563
    
    
    
    2,895Less: Accumulated depreciation and amortization
    
    
    (1,776
    )
    
    
    (1,973
    )$
    787
    
    
    $
    922
  4. INTANGIBLE ASSETS
  December 31,2006
    
    
    2005Ling Electronics trade name/symbol (indefinite life)
    
    
    849
    
    
    
    488ACG Dynamics customer list (5 year life)
    
    
    152
    
    
    
    152ACG Dynamics non compete (2 year life)
    
    
    74
    
    
    
    74Copyright, patents, and trademarks (2 to 20 year life)
    
    
    402
    
    
    
    400CE Certification (4 year life)
    
    
    64
    
    
    
    63Other intangibles (3 to 5 year life)
    
    
    61
    
    
    
    471,602
    
    
    
    1,224Less: Accumulated amortization
    
    
    (590
    )
    
    
    (496
    )$
    1,012
    
    
    $
    728
  Year endedDecember 31,2007
    
    $
    712008
    
    
    582009
    
    
    34$
    163
 5. ACCRUED EXPENSES
  December 31,2006
    
    
    2005Accrued warranty (Note 7)
    
    $
    187
    
    
    $
    294Accrued employee related
    
    
    322
    
    
    
    373Accrued bonus
    
    
    66
    
    
    
    156Other
    
    
    107
    
    
    
    196$
    682
    
    
    $
    1,019
  F - 13




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##### Table of Contents



6. INDEBTEDNESS
  Term Loans and Revolving Line of Credit:
   Convertible Debt:
    F - 14




---



##### Table of Contents



Year endedDecember 31,2007
    
    $
    9132008
    
    
    6672009 (November)
    
    
    960$
    2,540
 7. COMMITMENTS AND CONTINGENCIES
   OperatingLeasesYear ended December 31,2007
    
    $
    2622008
    
    
    2382009
    
    
    1842010
    
    
    77$
    761
  F - 15




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##### Table of Contents



Years EndedDecember 31,2006
    
    
    2005Balance, January 1
    
    $
    294
    
    
    $
    172Warranty expenditures
    
    
    (138
    )
    
    
    (144
    )Ling warranty costs (Note 15)
    
    
    
    
    
    
    106Provision for warranty costs
    
    
    31
    
    
    
    160Balance, December 31
    
    $
    187
    
    
    $
    294
 8. INCOME TAXES
  Years EndedDecember 31,2006
    
    
    2005Current tax expense (benefit)Federal
    
    $
    44
    
    
    $
    29State
    
    
    
    
    
    
    44
    
    
    
    29Deferred tax expense (benefit)Federal
    
    
    337
    
    
    
    464State
    
    
    53
    
    
    
    67390
    
    
    
    531Decrease in valuation allowance
    
    
    (525
    )
    
    
    (1,311
    )$
    (91
    )
    
    $
    (751
    )
  Years Ended December 31,2006
    
    
    2005Amount
    
    
    %
    
    
    Amount
    
    
    %Computed expected tax
    
    $
    360
    
    
    
    34.0
    %
    
    $
    455
    
    
    
    34.0
    %State income taxes, net of Federal income tax effect
    
    
    53
    
    
    
    5.0
    %
    
    
    67
    
    
    
    5.0
    %Decrease in valuation allowance
    
    
    (525
    )
    
    
    (49.5
    )%
    
    
    (1,311
    )
    
    
    (98.1
    )%Nondeductible expenses and other
    
    
    (23
    )
    
    
    (2.2
    )%
    
    
    9
    
    
    
    0.7
    %AMT tax
    
    
    44
    
    
    
    4.1
    %
    
    
    29
    
    
    
    2.2
    %$
    (91
    )
    
    
    (8.6
    )%
    
    $
    (751
    )
    
    
    (56.2
    )%
  F - 16




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##### Table of Contents



December 31,2006
    
    
    2005Deferred tax assets:Net operating loss carry forwards
    
    $
    995
    
    
    $
    1,566Accrued liabilities
    
    
    144
    
    
    
    169Allowance for doubtful accounts
    
    
    20
    
    
    
    20Inventory reserves
    
    
    76
    
    
    
    21Amortization of intangibles
    
    
    60
    
    
    
    74263A adjustment
    
    
    113
    
    
    
    33Stock-based compensation
    
    
    58
    
    
    
    Total deferred tax assets
    
    
    1,466
    
    
    
    1,883Valuation allowance
    
    
    
    
    
    
    (525
    )Net deferred tax assets
    
    
    1,466
    
    
    
    1,358Deferred tax liabilities:Goodwill
    
    
    (58
    )
    
    
    (31
    )Depreciation and amortization of property and equipment
    
    
    (35
    )
    
    
    (74
    )Total deferred tax liabilities
    
    
    (93
    )
    
    
    (105
    )Net deferred tax asset
    
    $
    1,373
    
    
    $
    1,253
  9. PREFERRED STOCK
 SERIES B
    
    SERIES CSHARES
    
    AMOUNT
    
    SHARES
    
    AMOUNTBalance, January 1, 2005
    
    
    683,967
    
    
    $
    1,500,000
    
    
    
    1,198
    
    
    $
    799,000Earned and issued
dividends
    
    
    56,769
    
    
    
    127,000
    
    
    
    99
    
    
    
    103,000Accretion of redemption
feature on preferred
stock and warrants
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    264,000Balance, January 1, 2006
    
    
    740,736
    
    
    
    1,627,000
    
    
    
    1,297
    
    
    
    1,166,000Earned and issued
dividends
    
    
    68,740
    
    
    
    83,000
    
    
    
    126
    
    
    
    73,000Accretion of redemption
feature on preferred
stock and warrants
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    183,000Conversion of preferred
stock to common stock
    
    
    (809,476
    )
    
    
    (1,710,000
    )
    
    
    (1,423
    )
    
    
    (1,422,000
    )Balance, December 31,
2006
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
 Preferred Stock  Series B (Series B preferred stock)
   F - 17




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##### Table of Contents



Preferred Stock  Series C (Series C preferred stock)
   10. STOCK WARRANTS AND OPTIONS
 OPTIONS
      F - 18




---



##### Table of Contents



Years EndedDecember 312006
    
    
    2005Expected life
    
    5 years
    
    3 yearsVolatility
    
    
    125 - 129
    %
    
    
    100 - 129
    %Risk-free interest rate
    
    
    4.45 - 4.99
    %
    
    
    2.50 - 3.50
    %Dividend yield
    
    
    0
    %
    
    
    0
    %
   WeighedWeighted
    
    
    AverageShares
    
    
    Average
    
    
    RemainingUnder
    
    
    Exercise
    
    
    Contractual
    
    
    AggregateOption
    
    
    Price
    
    
    Life
    
    
    Intrinsic ValueOutstanding at January 1, 2005
    
    
    740,450
    
    
    $
    1.84Granted
    
    
    62,000
    
    
    
    2.37Exercised
    
    
    (38,375
    )
    
    
    0.95Forfeited
    
    
    (11,700
    )
    
    
    4.04Outstanding at December 31, 2005
    
    
    752,375
    
    
    
    1.86Granted
    
    
    222,500
    
    
    
    1.80Exercised
    
    
    (34,165
    )
    
    
    0.89Forfeited
    
    
    (79,350
    )
    
    
    1.90Outstanding at December 31, 2006
    
    
    861,360
    
    
    $
    1.84
    
    
    4.19 years
    
    $
    333,000Exercisable at December 31, 2006
    
    
    609,790
    
    
    $
    1.32
    
    
    3.89 years
    
    $
    255,000
    F - 19




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##### Table of Contents



Weighted AverageNumber of Shares
    
    
    Weighted Average
    
    
    Remaining ContractualExercise Price Range
    
    Outstanding
    
    
    Exercise Price
    
    
    Life$0.60 - $1.44
    
    
    256,180
    
    
    $
    1.05
    
    
    
    4.46$1.50 - $1.85
    
    
    315,930
    
    
    $
    1.67
    
    
    
    3.13$2.00 - $5.69
    
    
    289,250
    
    
    $
    2.70
    
    
    
    5.11861,360
    
    
    $
    1.84
    
    
    
    4.19
  Nonvested
    
    
    WeightedShares
    
    
    AverageUnder
    
    
    Grant DateOption
    
    
    Fair ValueNonvested at January 1, 2006
    
    
    100,213
    
    
    $
    1.49Granted
    
    
    222,500
    
    
    
    1.80Vested
    
    
    (32,201
    )
    
    
    1.27Forfeited
    
    
    (38,942
    )
    
    
    1.69Nonvested at December 31, 2006
    
    
    251,570
    
    
    $
    1.76
  WARRANTS
    F - 20




---



##### Table of Contents



WeightedAverageExerciseShares
    
    
    PriceOutstanding at January 1, 2005
    
    
    442,153
    
    
    $
    1.26Granted
    
    
    
    
    
    
    Exercised
    
    
    (442,153
    )
    
    
    1.26Forfeited
    
    
    
    
    
    
    Outstanding at December 31, 2005
    
    
    
    
    
    $
    
 11. COMMON STOCK
  12. PROFIT SHARING PLAN
  13. SEGMENT INFORMATION
    F - 21




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##### Table of Contents



HALT/HASS
    
    
    ED
    
    
    Corporate
    
    
    TotalYEAR ENDED DECEMBER 31, 2006Sales
    
    $
    13,366
    
    
    $
    3,061
    
    
    $
    
    
    
    $
    16,427Gross profit
    
    
    6,227
    
    
    
    731
    
    
    
    
    
    
    
    6,958Capital expenditures
    
    
    147
    
    
    
    59
    
    
    
    
    
    
    
    206Goodwill
    
    
    
    
    
    
    1,057
    
    
    
    
    
    
    
    1,057Total assets
    
    
    7,913
    
    
    
    4136
    
    
    
    
    
    
    
    12,049Depreciation and amortization
    
    
    207
    
    
    
    153
    
    
    
    
    
    
    
    360Income tax benefit
    
    
    
    
    
    
    
    
    
    
    91
    
    
    
    91Interest expense
    
    
    
    
    
    
    5
    
    
    
    336
    
    
    
    341Interest income
    
    
    
    
    
    
    
    
    
    
    22
    
    
    
    22OTHER SIGNIFICANT NON-CASH ITEMSRedeemable preferred stock dividends declared
    
    
    
    
    
    
    
    
    
    
    156
    
    
    
    156Accretion of redeemable preferred stock
    
    
    
    
    
    
    
    
    
    
    183
    
    
    
    183YEAR ENDED DECEMBER 31, 2005Sales
    
    $
    12,613
    
    
    $
    2,232
    
    
    $
    
    
    
    $
    14,845Gross profit
    
    
    6,149
    
    
    
    552
    
    
    
    
    
    
    
    6,701Capital expenditures
    
    
    240
    
    
    
    48
    
    
    
    
    
    
    
    288Goodwill
    
    
    
    
    
    
    1,057
    
    
    
    
    
    
    
    1,057Total assets
    
    
    7,575
    
    
    
    3,965
    
    
    
    
    
    
    
    11,540Depreciation and amortization
    
    
    252
    
    
    
    85
    
    
    
    
    
    
    
    337Income tax benefit
    
    
    
    
    
    
    
    
    
    
    751
    
    
    
    751Interest expense
    
    
    
    
    
    
    96
    
    
    
    55
    
    
    
    151Interest income
    
    
    
    
    
    
    
    
    
    
    11
    
    
    
    11OTHER SIGNIFICANT NON-CASH ITEMSRedeemable preferred stock dividends declared
    
    
    
    
    
    
    
    
    
    
    230
    
    
    
    230Accretion of redeemable preferred stock
    
    
    
    
    
    
    
    
    
    
    264
    
    
    
    264
  United
    
    
    
    
    
    
    
    
    
    
    Asia
    
    
    MiddleStates
    
    
    Mexico
    
    
    Europe
    
    
    Pacific
    
    
    East
    
    
    Other
    
    
    TotalYEAR ENDED DECEMBER 31, 2006Sales
    
    $
    10,000
    
    
    
    
    
    
    $
    1,516
    
    
    $
    4,658
    
    
    $
    81
    
    
    $
    172
    
    
    $
    16,427Long-lived assets, net
    
    
    3,265
    
    
    
    
    
    
    
    55
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    3,320YEAR ENDED DECEMBER 31, 2005Sales
    
    $
    8,324
    
    
    
    
    
    
    $
    2,722
    
    
    $
    3,799
    
    
    
    
    
    
    
    
    
    
    $
    14,845Long-lived assets, net
    
    
    3,163
    
    
    
    
    
    
    
    57
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    3,220
  14. LEGAL MATTERS
   F - 22




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##### Table of Contents



15. ASSET ACQUISITION
 LING ELECTRONICS (LING)
    Inventory
    
    $
    1,639Property and equipment
    
    
    68Vendor tooling
    
    
    240Intangible assets
    
    
    488Total assets acquired
    
    
    2,435Current liabilities assumed
    
    
    (110
    )Net assets acquired
    
    $
    2,325
   F - 23




---



##### Table of Contents



Inventory
    
    $
    1,278Property and equipment
    
    
    68Vendor tooling
    
    
    240Intangible assets
    
    
    849Total assets acquired
    
    
    2,435Current liabilities assumed
    
    
    (110
    )Net assets acquired
    
    $
    2,325
  F - 24




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##### Table of Contents



EXHIBITNUMBER
    
    DESCRIPTION3.1
    
    Amended and Restated Articles of Incorporation of the Company.(1)3.2
    
    Amended and Restated Bylaws of the Company.(1)3.3
    
    Certificate of Designation for Series A Preferred Stock.(5)3.4
    
    Amended Certificate of Designation for Series A Preferred Stock.(5)3.5
    
    Statement of Change of Registered Agent.(5)4.1
    
    Form of Certificate for Shares of Common Stock.(1)4.6
    
    Form of Warrant issued to holders of 10% secured promissory notes.(1)10.1
    
    Qualmark Corporation 1993 Incentive Stock Option Plan.(1)10.2
    
    Qualmark Corporation 1996 Stock Option Plan.(3)10.3
    
    Employment Agreement dated March 1, 1993 by and between the Company and W. Preston Wilson.(1)10.4
    
    Employment Agreement dated August 15, 1994 by and between the Company and J. Wayne Farlow.(1)10.5
    
    Agreement dated September 30, 1995 by and between the Company and Gregg K. Hobbs.(1)10.8
    
    Addendum to Agreement dated as of December 21, 1995 by and between the Company and Gregg K.
Hobbs.(1)10.11
    
    Loan and Security Agreement dated April 30, 1996, by and between Qualmark Corporation and Silicon
Valley Bank, as amended by Amendment to Loan and Security Agreement dated August 18, 1997.(2)10.12
    
    Loan and Security Agreement dated December 22, 1998, by and between Qualmark Corporation and U.S.
Bank National Association.(4)10.13
    
    Waiver and Amendment to Loan Agreement dated March 15, 1999 by and between Qualmark and U.S. Bank
National Association.(4)10.14
    
    Second Amendment to Loan Agreement dated August 23, 1999 by and between Qualmark and U.S. Bank
National Association.(5)10.15
    
    Settlement Agreement dated August 30, 1999 by and among Qualmark Corporation and Screening Systems,
Inc.(5)10.16
    
    Preferred Stock Purchase Agreement dated September 1, 1999, including Warrant to Purchase 139,535
Shares of Common Stock.(5)10.17
    
    Third Amendment to Loan Agreement dated March 31, 2000 by and between Qualmark and U.S. Bank
National Association.(6)10.18
    
    Employment Agreement dated July 17, 2000 by and between the Company and Charles D. Johnston.(7)10.19
    
    Second Amendment to Promissory Notes and Fifth Amendment to Loan Agreement dated February 1, 2001
by and between Qualmark and U.S. Bank National Association.(8)10.20
    
    Third Amendment to Promissory Notes and Sixth Amendment to Loan Agreement dated June 29, 2001 by
and between Qualmark and U.S. Bank National Association.(9)10.21
    
    Fourth Amendment to Promissory Notes and Seventh Amendment to Loan Agreement dated January 31, 2002
by and between Qualmark and U.S. Bank National Association. (10)10.22
    
    Series C Preferred Stock Purchase Agreement dated March 27, 2002 (11)10.23
    
    Series C Preferred Stock Certificate of Designations (11)10.24
    
    Series B Preferred Stock Certificate of Designations (11)10.25
    
    Fifth Amendment to Promissory Notes and Eighth Amendment to Loan Agreement dated January 23, 2003
by and between Qualmark and U.S. Bank National Association.(12)10.25(b)
    
    Sixth Amendment to Promissory Notes and Ninth Amendment to Loan Agreement dated July 25, 2003 by
and between Qualmark and U.S. Bank National Association(13)10.26
    
    Irrevocable Letter of Credit issued to Catellus Development Corporation (12)10.26(b)
    
    Warrant agreement to purchase 25,000 shares of Common Stock dated July 25, 2003 (13)




---



##### Table of Contents



EXHIBITNUMBER
    
    DESCRIPTION10.27
    
    Seventh Amendment to Promissory Notes and Tenth Amendment to Loan Agreement dated February 27, 2004
by and between Qualmark and U.S. Bank National Association. (14)10.28
    
    Settlement Agreement and Payment Schedule dated February 13, 2004, by and between Qualmark
Corporation and Gregg K. Hobbs. (14)10.29
    
    Eighth Amendment to Promissory Notes and Eleventh Amendment to Loan Agreement dated April 20, 2004
by and between Qualmark and U.S. Bank National Association.(15)10.30
    
    Loan and Security Agreement dated November 9, 2004 by and between Qualmark and Silicon Valley Bank
(16)10.31
    
    Loan and Security Agreement dated November 11, 2004 by and between Qualmark and Partners for Growth
(17)10.32
    
    Asset Purchase Agreement dated November 12, 2004 by and between Qualmark and ACG Dynamics, Inc. (17)10.33
    
    Loan and Security Agreement dated December 8, 2005 by and between Qualmark and Silicon Valley Bank
(18)10.34
    
    Amendment to Loan and Security Agreement dated December 12, 2005 by and between Qualmark and
Partners for Growth (18)10.35
    
    Asset Purchase Agreement dated December 13, 2005 by and between Qualmark and SatCon Technology.(18)10.36
    
    Loan and Security Agreement dated February 20, 2007 by and between Qualmark and Partners for Growth10.37
    
    Fifth Amendment to Loan and Security Agreement dated March 13, 2006 by and between Qualmark and
Silicon Valley Bank14
    
    Director and Officer Code of Ethics (14)23.1
    
    Consent of GHP Horwath, P.C.31.1
    
    CEO Certification of Section 302 of the Sarbanes-Oxley Act of 200231.2
    
    CFO Certification of Section 302 of the Sarbanes-Oxley Act of 200232
    
    Certifications of Section 906 of the Sarbanes-Oxley Act of 2002
 
 (1)
    
    Incorporated by reference from the Companys Registration Statement No. 333-1454-D on Form
SB-2.(2)
    
    Incorporated by reference from the Companys Quarterly Report on Form 10- QSB for the quarter
ended September 30, 1997.(3)
    
    Incorporated by reference from the Companys Proxy Statement for the 1996 Annual Meeting of
Shareholders.(4)
    
    Incorporated by reference from the Companys Annual Report of Form 10-KSB for the year ended
December 31, 1998.(5)
    
    Incorporated by reference from the Companys Quarterly Report on Form 10- QSB for the quarter
ended September 30, 1999.(6)
    
    Incorporated by reference from the Companys Quarterly Report on Form 10- QSB for the quarter
ended June 30, 2000.(7)
    
    Incorporated by reference from the Companys Quarterly Report on Form 10- QSB for the quarter
ended September 30, 2000.(8)
    
    Incorporated by reference from the Companys Annual Report on Form 10-KSB for the year ended
December 31, 2000.(9)
    
    Incorporated by reference from the Companys Quarterly Report on Form 10- QSB for the quarter
ended June 30, 2001.(10)
    
    Incorporated by reference from the Companys Annual Report on Form 10-KSB for the year ended
December 31, 2001.




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##### Table of Contents



(11)
    
    Incorporated by reference from the Companys Quarterly Report on Form 10-QSB for the quarter
ended March 31, 2002.(12)
    
    Incorporated by reference from the Companys Annual Report on Form 10-KSB for the year ended
December 31, 2002.(13)
    
    Incorporated by reference from the Companys Quarterly Report on Form 10-QSB for the quarter
ended June 30, 2003.(14)
    
    Incorporated by reference from the Companys Annual Report on Form 10-KSB for the year ended
December 31, 2003.(15)
    
    Incorporated by reference from the Companys Quarterly Report on Form 10-QSB for the quarter
ended March 31, 2004.(16)
    
    Incorporated by reference from the Companys Quarterly Report on Form 10-QSB for the quarter
ended September 30, 2004.(17)
    
    Incorporated by reference from the Companys Annual Report on Form 10-KSB for the year ended
December 31, 2004.(18)
    
    Incorporated by reference from the Companys Annual Report on Form 10-KSB for the year ended
December 31, 2005.