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 June 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: 000-27372
  
 StockerYale,
Inc.
 (Exact
name of registrant as specified in its charter)
  
  Massachusetts
                04-2114473(State
      or other jurisdiction of
                  incorporation
      or organization)
                (I.R.S.
      Employer
                  Identification
      No.)
  32
      Hampshire Road
                  Salem,
      New Hampshire
                03079(Address
      of principal executive offices)
                (Zip
      Code)
  Registrant’s
telephone number, including area code: (603) 893-8778
 
  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 (§232.405 of this
chapter) during the preceding 12 months (or for such shorter period that the
registrant was required to submit and post such files). Yes oNo o
  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.
  Large accelerated filer   ̈
              Accelerated filer   ̈
              Non-accelerated filer   ̈
              Smaller reporting company  x(Do not
      check if a smaller
                reporting
      company)
  Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act).    Yes   ̈    No  x
  As of
July 24, 2009, there were 44,870,932 shares of the registrant’s common stock
outstanding.
  
  STOCKERYALE,
INC.
  INDEX
TO FORM 10-Q
  PagePART
      I - FINANCIAL INFORMATIONItem 1
                    Financial
      Statements
                    3Item 2
                    Management’s
      Discussion and Analysis of Financial Condition and Results of
      Operations
                    22Item 3
                    Quantitative
      and Qualitative Disclosures About Market Risk
                    25Item 4
                    Controls
      and Procedures
                    25PART
      II - OTHER INFORMATIONItem 1
                    Legal
      Proceedings
                    25Item 1A
                    Risk
      Factors
                    26Item 5
                    Other
      Information
                    26Item 6
                    Exhibits
                    27
  2
  Item 1.
              Financial
      Statements.
  STOCKERYALE,
INC.
 CONDENSED
CONSOLIDATED BALANCE SHEETS
 In
thousands except share and per share data
 Unaudited
  June
      30,
                                                        2009
                                                      
                                                      
                                                      December 31,
                                                        2008AssetsCurrent
      assets:Cash
      and cash equivalents
                                                      
                                                      $
                                                      1,165
                                                      
                                                      
                                                      $
                                                      1,635Restricted
      cash
                                                      
                                                      
                                                      8
                                                      
                                                      
                                                      
                                                      7Accounts
      receivable less allowances of $70 at June 30, 2009 and $115 at
      December 31, 2008
                                                      
                                                      
                                                      3,425
                                                      
                                                      
                                                      
                                                      3,859Inventories
                                                      
                                                      
                                                      3,945
                                                      
                                                      
                                                      
                                                      3,851Prepaid
      expenses and other current assets
                                                      
                                                      
                                                      476
                                                      
                                                      
                                                      
                                                      395Total
      current assets
                                                      
                                                      
                                                      9,019
                                                      
                                                      
                                                      
                                                      9,747Net
      property, plant and equipment
                                                      
                                                      
                                                      8,317
                                                      
                                                      
                                                      
                                                      8,496Goodwill
                                                      
                                                      
                                                      7,138
                                                      
                                                      
                                                      
                                                      6,588Acquired
      intangible assets, net
                                                      
                                                      
                                                      1,774
                                                      
                                                      
                                                      
                                                      1,963Other
      long-term assets
                                                      
                                                      
                                                      227
                                                      
                                                      
                                                      
                                                      648Total
      assets
                                                      
                                                      $
                                                      26,475
                                                      
                                                      
                                                      $
                                                      27,442Liabilities
      and Stockholders’ EquityCurrent
      liabilities:Revolving
      lines of credit
                                                      
                                                      $
                                                      3,592
                                                      
                                                      
                                                      $
                                                      4,118Current
      portion of long-term debt, net of unamortized discount of $720 at
      June 30, 2009 and $856 at December 31, 2008
                                                      
                                                      
                                                      6,723
                                                      
                                                      
                                                      
                                                      3,869Current
      portion of capital and financing lease obligations
                                                      
                                                      
                                                      561
                                                      
                                                      
                                                      
                                                      576Accounts
      payable
                                                      
                                                      
                                                      3,603
                                                      
                                                      
                                                      
                                                      3,874Accrued
      expenses
                                                      
                                                      
                                                      4,015
                                                      
                                                      
                                                      
                                                      2,496Total
      current liabilities
                                                      
                                                      
                                                      18,494
                                                      
                                                      
                                                      
                                                      14,933Long-term
      debt, net of unamortized discount of $360 at June 30, 2009 and $658
      at December 31, 2008
                                                      
                                                      
                                                      3,809
                                                      
                                                      
                                                      
                                                      6,372Capital
      and financing lease obligations, net of current portion
                                                      
                                                      
                                                      3,302
                                                      
                                                      
                                                      
                                                      3,372Warrant
      liability
                                                      
                                                      
                                                      146
                                                      
                                                      
                                                      
                                                      —Deferred
      income taxes, net
                                                      
                                                      
                                                      364
                                                      
                                                      
                                                      
                                                      486Total
      liabilities
                                                      
                                                      
                                                      26,115
                                                      
                                                      
                                                      
                                                      25,163Stockholders’
      equity:Common
      stock, par value $0.001; 100,000,000 shares authorized; 44,871,081 shares
      issued and outstanding at June 30, 2009 and 43,464,413 at
      December 31, 2008
                                                      
                                                      
                                                      45
                                                      
                                                      
                                                      
                                                      43Paid-in
      capital
                                                      
                                                      
                                                      102,621
                                                      
                                                      
                                                      
                                                      103,270Accumulated
      other comprehensive income
                                                      
                                                      
                                                      2,367
                                                      
                                                      
                                                      
                                                      2,518Accumulated
      deficit
                                                      
                                                      
                                                      (104,673
                                                      )
                                                      
                                                      
                                                      (103,552
                                                      )Total
      stockholders’ equity
                                                      
                                                      
                                                      360
                                                      
                                                      
                                                      
                                                      2,279Total
      liabilities and stockholders’ equity
                                                      
                                                      $
                                                      26,475
                                                      
                                                      
                                                      $
                                                      27,442
  See
notes to unaudited condensed consolidated financial statements.
  3
  STOCKERYALE,
INC.
 CONDENSED
CONSOLIDATED STATEMENTS OF OPERATIONS
 Unaudited
  Three
      Months Ended
                                                                    June 30,
                                                                  
                                                                  
                                                                  Six
      Months Ended
                                                                    June 30,2009
                                                                  
                                                                  
                                                                  2008
                                                                  
                                                                  
                                                                  2009
                                                                  
                                                                  
                                                                  2008In
      thousands except per share dataRevenue
                                                                  
                                                                  $
                                                                  6,017
                                                                  
                                                                  
                                                                  $
                                                                  8,547
                                                                  
                                                                  
                                                                  $
                                                                  12,336
                                                                  
                                                                  
                                                                  $
                                                                  16,609Cost
      of sales
                                                                  
                                                                  
                                                                  3,987
                                                                  
                                                                  
                                                                  
                                                                  5,643
                                                                  
                                                                  
                                                                  
                                                                  7,916
                                                                  
                                                                  
                                                                  
                                                                  11,246Gross
      profit
                                                                  
                                                                  
                                                                  2,030
                                                                  
                                                                  
                                                                  
                                                                  2,904
                                                                  
                                                                  
                                                                  
                                                                  4,420
                                                                  
                                                                  
                                                                  
                                                                  5,363Operating
      expenses:Selling
      expenses
                                                                  
                                                                  
                                                                  691
                                                                  
                                                                  
                                                                  
                                                                  920
                                                                  
                                                                  
                                                                  
                                                                  1,485
                                                                  
                                                                  
                                                                  
                                                                  2,055General
      and administrative
                                                                  
                                                                  
                                                                  1,335
                                                                  
                                                                  
                                                                  
                                                                  2,433
                                                                  
                                                                  
                                                                  
                                                                  2,910
                                                                  
                                                                  
                                                                  
                                                                  4,194Research
      and development
                                                                  
                                                                  
                                                                  714
                                                                  
                                                                  
                                                                  
                                                                  827
                                                                  
                                                                  
                                                                  
                                                                  1,440
                                                                  
                                                                  
                                                                  
                                                                  1,587Amortization
      of intangibles
                                                                  
                                                                  
                                                                  209
                                                                  
                                                                  
                                                                  
                                                                  295
                                                                  
                                                                  
                                                                  
                                                                  405
                                                                  
                                                                  
                                                                  
                                                                  625Loss
      from operations
                                                                  
                                                                  
                                                                  (919
                                                                  )
                                                                  
                                                                  
                                                                  (1,571
                                                                  )
                                                                  
                                                                  
                                                                  (1,820
                                                                  )
                                                                  
                                                                  
                                                                  (3,098
                                                                  )Other
      (income) and expense, net
                                                                  
                                                                  
                                                                  (1,390
                                                                  )
                                                                  
                                                                  
                                                                  83
                                                                  
                                                                  
                                                                  
                                                                  (1,286
                                                                  )
                                                                  
                                                                  
                                                                  230Amortization
      of debt discount and financing costs
                                                                  
                                                                  
                                                                  708
                                                                  
                                                                  
                                                                  
                                                                  392
                                                                  
                                                                  
                                                                  
                                                                  1,173
                                                                  
                                                                  
                                                                  
                                                                  646Interest
      expense
                                                                  
                                                                  
                                                                  317
                                                                  
                                                                  
                                                                  
                                                                  303
                                                                  
                                                                  
                                                                  
                                                                  634
                                                                  
                                                                  
                                                                  
                                                                  622Loss
      from continuing operations before income tax benefit
                                                                  
                                                                  
                                                                  (554
                                                                  )
                                                                  
                                                                  
                                                                  (2,349
                                                                  )
                                                                  
                                                                  
                                                                  (2,341
                                                                  )
                                                                  
                                                                  
                                                                  (4,596
                                                                  )Income
      tax provision / (benefit)
                                                                  
                                                                  
                                                                  164
                                                                  
                                                                  
                                                                  
                                                                  (62
                                                                  )
                                                                  
                                                                  
                                                                  (9
                                                                  )
                                                                  
                                                                  
                                                                  (122
                                                                  )Loss
      from continuing operations
                                                                  
                                                                  
                                                                  (718
                                                                  )
                                                                  
                                                                  
                                                                  (2,287
                                                                  )
                                                                  
                                                                  
                                                                  (2,332
                                                                  )
                                                                  
                                                                  
                                                                  (4,474
                                                                  )Income
      from discontinued operations, net of tax
                                                                  
                                                                  
                                                                  -
                                                                  
                                                                  
                                                                  
                                                                  2
                                                                  
                                                                  
                                                                  
                                                                  7
                                                                  
                                                                  
                                                                  
                                                                  23Net
      loss
                                                                  
                                                                  $
                                                                  (718
                                                                  )
                                                                  
                                                                  $
                                                                  (2,285
                                                                  )
                                                                  
                                                                  $
                                                                  (2,325
                                                                  )
                                                                  
                                                                  $
                                                                  (4,451
                                                                  )Basic
      and diluted net loss per share from continuing operations
                                                                  
                                                                  $
                                                                  (0.02
                                                                  )
                                                                  
                                                                  $
                                                                  (0.06
                                                                  )
                                                                  
                                                                  $
                                                                  (0.05
                                                                  )
                                                                  
                                                                  $
                                                                  (0.12
                                                                  )Basic
      and diluted net income per share from discontinued
    operations
                                                                  
                                                                  $
                                                                  0.00
                                                                  
                                                                  
                                                                  $
                                                                  0.00
                                                                  
                                                                  
                                                                  $
                                                                  0.00
                                                                  
                                                                  
                                                                  $
                                                                  0.00Basic
      and diluted net loss per share
                                                                  
                                                                  $
                                                                  (0.02
                                                                  )
                                                                  
                                                                  $
                                                                  (0.06
                                                                  )
                                                                  
                                                                  $
                                                                  (0.05
                                                                  )
                                                                  
                                                                  $
                                                                  (0.12
                                                                  )Basic
      and diluted weighted average shares outstanding:
                                                                  
                                                                  
                                                                  43,693
                                                                  
                                                                  
                                                                  
                                                                  37,585
                                                                  
                                                                  
                                                                  
                                                                  43,166
                                                                  
                                                                  
                                                                  
                                                                  37,156
  See
notes to unaudited condensed consolidated financial statements.
  4
  STOCKERYALE,
INC.
 CONDENSED
CONSOLIDATED STATEMENTS OF CASH FLOWS
 In
thousands
 Unaudited
  Six Months Ended
                    June 302009
                  
                  
                  2008OperationsNet
      loss
                  
                  $
                  (2,325
                  )
                  
                  $
                  (4,451
                  )Income
      from discontinued operations, net of tax
                  
                  
                  7
                  
                  
                  
                  23Loss
      from continuing operations
                  
                  
                  (2,332
                  )
                  
                  
                  (4,474
                  )Adjustments
      to reconcile net loss to net cash provided by (used in) operating
      activities:Stock
      based compensation
                  
                  
                  427
                  
                  
                  
                  563Depreciation
      and amortization
                  
                  
                  1,323
                  
                  
                  
                  1,661Asset
      Impairment
                  
                  
                  —
                  
                  
                  
                  36Amortization
      of debt discount and financing costs
                  
                  
                  1,173
                  
                  
                  
                  646Non
      cash interest expense
                  
                  
                  136
                  
                  
                  
                  143Change
      in fair value of warrants
                  
                  
                  (146
                  )
                  
                  
                  —Provision
      for inventories
                  
                  
                  185
                  
                  
                  
                  17Provision
      for bad debts
                  
                  
                  (29
                  )
                  
                  
                  34Deferred
      income taxes
                  
                  
                  (9
                  )
                  
                  
                  (123
                  )Other
      change in assets and liabilities:Accounts
      receivable
                  
                  
                  563
                  
                  
                  
                  (65
                  )Inventories
                  
                  
                  (58
                  )
                  
                  
                  (246
                  )Prepaid
      expenses and other current assets
                  
                  
                  (56
                  )
                  
                  
                  (96
                  )Accounts
      payable
                  
                  
                  (302
                  )
                  
                  
                  354Accrued
      expenses
                  
                  
                  645
                  
                  
                  
                  (196
                  )Other
      assets and liabilities
                  
                  
                  11
                  
                  
                  
                  14Net
      cash provided by (used in) continuing operations
                  
                  
                  1,531
                  
                  
                  
                  (1,732
                  )Net
      cash used in discontinued operations
                  
                  
                  —
                  
                  
                  
                  (5
                  )Net
      cash provided by (used in) operating activities
                  
                  
                  1,531
                  
                  
                  
                  (1,737
                  )InvestingPayments
      of financing obligation.
                  
                  
                  (164
                  )
                  
                  
                  (127
                  )Purchases
      of plant and equipment
                  
                  
                  (356
                  )
                  
                  
                  (105
                  )Net
      cash used in continuing investing activities
                  
                  
                  (520
                  )
                  
                  
                  (232
                  )Net
      cash provided by discontinued operations
                  
                  
                  7
                  
                  
                  
                  28Net
      cash used in investing activities
                  
                  
                  (513
                  )
                  
                  
                  (204
                  )FinancingNet
      proceeds from sale of common stock
                  
                  
                  12
                  
                  
                  
                  —Proceeds
      from issuance of notes payable
                  
                  
                  500
                  
                  
                  
                  500Borrowings/(Repayments)
      of revolving credit facilities, net
                  
                  
                  (377
                  )
                  
                  
                  1,678Principal
      repayment of long-term debt
                  
                  
                  (600
                  )
                  
                  
                  (995
                  )Debt
      issuance costs
                  
                  
                  —
                  
                  
                  
                  (11
                  )Net
      cash provided by (used in) financing activities
                  
                  
                  (465
                  )
                  
                  
                  1,172Effect
      of exchange rate on cash
                  
                  
                  (1,023
                  )
                  
                  
                  39Net
      change in cash and equivalents.
                  
                  
                  (470
                  )
                  
                  
                  (730
                  )Cash
      and equivalents, beginning of period
                  
                  
                  1,635
                  
                  
                  
                  1,577Cash
      and equivalents, end of period
                  
                  $
                  1,165
                  
                  
                  $
                  847Supplemental
      disclosure of cash flow informationCash
      paid for interest
                  
                  $
                  577
                  
                  
                  $
                  584Assets
      acquired under lease arrangements
                  
                  $
                  276
                  
                  
                  $
                  —Issuance
      of restricted stock
                  
                  $
                  —
                  
                  
                  $
                  114Issuance
      of common stock to settle liabilities
                  
                  $
                  370
                  
                  
                  $
                  202Common
      stock issued with financing
                  
                  $
                  —
                  
                  
                  $
                  1,012Fair
      value of warrant modifications and issuances (in connection with
      financing)
                  
                  $
                  38
                  
                  
                  $
                  477
  See
notes to unaudited condensed consolidated financial statements.
  5
  STOCKERYALE,
INC.
  NOTES
TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
  (1)
ORGANIZATION AND BASIS OF PRESENTATION
  The
accompanying unaudited condensed consolidated financial statements have been
prepared by StockerYale, Inc. (the “Company”) and, in the opinion of management,
reflect all adjustments of a normal recurring nature necessary for a fair
statement of (i) the results of operations for the three and six month
periods ended June 30, 2009 and 2008, (ii) the financial position at June
30, 2009 and December 31, 2008, and (iii) the cash flows for the six
month periods ended June 30, 2009 and 2008. These interim results are not
necessarily indicative of results for a full year or any other interim
period.
  The
accompanying consolidated financial statements and notes are condensed as
permitted by Form 10-Q and do not contain certain information included in the
annual financial statements and notes of the Company. These statements are
prepared on a going concern basis, which contemplates the realization of assets
and satisfaction of liabilities in the normal course of business. The Company’s
continuation as a going concern is dependent on its ability to generate
sufficient cash flow to meet its obligations on a timely basis through improved
operations and/or additional financing. These unaudited condensed consolidated
financial statements and notes should be read in conjunction with the
consolidated financial statements and notes included in the Company’s Annual
Report on Form 10-K for the year ended December 31, 2008 and the unaudited
condensed consolidated financial statements and notes thereto included in the
Company’s quarterly report on Form 10-Q for the quarter ended March 31,
2009.
  The
Company took a number of actions during 2008 and the first half of 2009 to
improve its operational efficiency and its overall financial
performance.  In addition, in response to the general economic
slowdown that began in late 2008, management initiated a number of actions to
improve cash flow and liquidity recognizing that the economy could negatively
impact the future performance of the Company.  These actions
include:
  ·
              Customer-driven
      new product development to provide our customers and potential customers
      with an array of leading edge
products;
  ·
              Reduction
      in our overall cost structure in a variety of ways
      including:  reduction of work force, salary reductions,
      improvements in supply chain management and material
  costs;
  ·
              Improvements
      in working capital through focused management of inventory and accounts
      receivable; and
  ·
              Further
      cost reductions, as necessary and able, in order to improve cash
      flow.
  The
Company is considering different ways to raise additional capital including the
sale of our equity securities, offerings of debt securities, or borrowings from
financial institutions. The Company is in discussions with potential lenders to
refinance the North American revolving credit facility as well as potential
lenders to refinance portions of its term debt.  However, there can be
no assurance that such activities will result in refinancing, and if we were
able to refinance our indebtedness, such terms may be less favorable to the
Company than the current terms.  The Company has engaged Needham &
Company, LLC to assist us in reviewing and evaluating our financial and
strategic alternatives.
  The
Company intends to pursue various options to finance and fund operations, as
necessary, through the end of 2009. The Company cannot be sure of the timing or
terms of any borrowing arrangements or equity offerings, or that the Company
will be able to consummate one or more of these options. If the Company does not
achieve these goals in 2009, it would implement contingency plans for additional
cost reductions; however, there is a possibility that it would not have adequate
capital to sustain our current operations.
  The
Company’s common stock trades on the OTC Bulletin Board under the ticker symbol
“STKR.OB.”
  (2)
USE OF ESTIMATES
  The
preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities as of the date of the financial statements and
the reported amounts of income and expenses during the reporting periods. Actual
results in the future could vary from the amounts derived from management’s
estimates and assumptions.
  6
  (3)
RECENT ACCOUNTING PRONOUNCEMENTS
  FSP
No. FAS 115-2 and FAS 124-2, Recognition and Presentation of
Other-Than-Temporary Impairments
  In April
2009, the FASB issued FSP No. FAS 115-2 and FAS 124-2, "Recognition and
Presentation of Other-Than-Temporary Impairments." FSP No. FAS 115-2 and FAS
124-2 amends the other-than-temporary impairment guidance for debt securities to
make the guidance more operational and to improve the presentation and
disclosure of other-than-temporary impairments on debt and equity securities in
the financial statements. This guidance does not amend existing recognition and
measurement guidance related to other-than-temporary impairments of equity
securities. The provisions of FSP No. FAS 115-2 and FAS 124-2 are effective for
interim and annual reporting periods ending after June 15, 2009. The Company
adopted FSP No. FAS 115-2 and FAS 124-2 on April 1, 2009, which did not have a
material effect on its consolidated financial statements.
  FSP
No. FAS 107-1 and APB No. 28-1, Interim Disclosures about Fair Value of
Financial Instruments
  In April
2009, the FASB issued FSP No. FAS 107-1 and APB No. 28-1, "Interim Disclosures
about Fair Value of Financial Instruments" which amends SFAS No. 107,
Disclosures about Fair Value of Financial Instruments, to require disclosures
about fair value of financial instruments for interim reporting periods of
publicly traded companies, as well as in annual financial statements. This FSP
also amends APB Opinion No. 28, Interim Financial Reporting, to require those
disclosures in summarized financial information at interim reporting periods.
FSP FAS 107-1 and APB 28-1 are effective for interim reporting periods ending
after June 15, 2009. The Company adopted FSP No. FAS 107-1 and APB No. 28-1 on
April 1, 2009, which did not have a material effect on its financial statement
disclosures.
  EITF
07-05, Determining Whether an Instrument (or Embedded Feature) Is Indexed to an
Entity's Own Stock
 
 In June
2008, the Emerging Issues Task Force ratified Consensus No. 07-05 Determining
Whether an Instrument (or
Embedded Feature) Is Indexed to an Entity's Own Stock for periods beginning
after December 15, 2008. EITF 07-05 applies to any freestanding financial
instrument or embedded features that have the characteristics of a derivative,
as defined by SFAS No. 133, “Accounting for Derivative Instruments and
Hedging Activities,” and to any freestanding financial instruments that are
potentially settled in an entity’s own common stock.  The Company
adopted EITF 07-05 on January 1, 2009 and determined that certain warrants, that
are contractually indexed to 2,375,000 shares of Common Stock and that were
previously treated as stockholders’ equity under the derivative treatment
exemption were no longer eligible for equity treatment.  These
warrants have an exercise price of $1.15 and expire in October 2016.
Effective January 1, 2009 the fair value of these common stock purchase
warrants, which have exercise price reset features, was reclassified from equity
to liability status as if these warrants were treated as a derivative liability
since their date of issue in October 2006. On January 1, 2009, the Company
reclassified from additional paid-in capital, as a cumulative effect adjustment,
$1.2 million to beginning retained earnings and $0.3 million to a
long-term warrant liability.  The Company recognized a gain of
approximately $145,000 from the change in fair value of these warrants for the
six months ended June 30, 2009.
 
 The
common stock purchase warrants were not issued with the intent of effectively
hedging any future cash flow, fair value of any asset, liability or any net
investment in a foreign operation. The warrants do not qualify for hedge
accounting, and all future changes in the fair value of these warrants will be
recognized currently in earnings until the warrants are exercised or
expire.
 
 These
common stock purchase warrants do not trade in an active securities market, and
we estimated the fair value of these warrants using the Black-Scholes option
pricing model using the following assumptions:
 
 June
      30,
                    2009
                  
                  
                  January
      1,
                    2009Volatility
                  
                  
                  104.8
                  %
                  
                  
                  101.4
                  %Expected
      option life
                  
                  7.3
      years
                  
                  
                  7.8
      yearsInterest
      rate (risk free)
                  
                  
                  3.33
                  %
                  
                  
                  2.46
                  %Dividends
                  
                  $
                  0.0
                  
                  
                  $
                  0.0
  SFAS
161, “Disclosures about Derivative Instruments and Hedging Activities”, an
Amendment of FASB Statement No. 133
  In March
2008, the FASB issued SFAS No. 161, Disclosures about Derivative
Instruments and Hedging Activities(“SFAS 161”),an amendment of FASB
Statement No. 133, which requires additional disclosures about the
objectives of the derivative instruments and hedging activities, the method of
accounting for such instruments under SFAS No. 133 and its related
interpretations, and a tabular disclosure of the effects of such instruments and
related hedged items on our financial position, financial performance, and cash
flows. The Company adopted SFAS 161 on January 1, 2009, and the adoption did not
have a material impact on its consolidated financial
statements.
  7
  SFAS
160, “Noncontrolling Interests in Consolidated Financial Statements”, an
Amendment of ARB 51
  In
December 2007, the FASB issued SFAS 160,Noncontrolling Interests in
Consolidated Financial Statements, an amendment of ARB 51,Consolidated Financial
Statements. SFAS 160 provides guidance for the accounting, reporting and
disclosure of noncontrolling interests, also called minority interest. A
minority interest represents the portion of equity (net assets) in a subsidiary
not attributable, directly or indirectly, to a parent. The Company adopted SFAS
160 on January 1, 2009 and the adoption did not have a material impact on
its consolidated financial statements.
  SFAS
No. 141(R) “Business Combinations”
  In
December 2007, the FASB issued SFAS No. 141(R), Business Combinations,which
replaces SFAS No. 141, Business Combinations.SFAS 141(R) (i) requires the acquiring entity in a business
combination to record all assets acquired and liabilities assumed at their
acquisition-date fair values, (ii) changes the recognition of assets
acquired and liabilities assumed arising from contingencies, (iii) requires
contingent consideration to be recognized at its fair value on the acquisition
date and, for certain arrangements, requires changes in fair value to be
recognized in earnings until settled, (iv) requires companies to revise any
previously issued post-acquisition financial information to reflect any
adjustments as if they had been recorded on the acquisition date,
(v) requires the reversals of valuation allowances related to acquired
deferred tax assets and changes to acquired income tax uncertainties to be
recognized in earnings, and (vi) requires the expensing of
acquisition-related costs as incurred. SFAS 141(R) also requires additional
disclosure of information surrounding a business combination to enhance
financial statement users’ understanding of the nature and financial impact of
the business combination. SFAS 141(R) applies prospectively to business
combinations for which the acquisition date is on or after the beginning of the
first annual reporting period beginning on or after December 15, 2008, with
the exception of accounting for changes in a valuation allowance for acquired
deferred tax assets and the resolution of uncertain tax positions accounted for
under FIN 48, which is effective on January 1, 2009 for all acquisitions.
The Company adopted SFAS 141(R) on January 1, 2009 and it will have an impact on
accounting, but the impact is dependent upon the acquisitions made after
adoption.
  FSP
No. FAS 157-4, Determining Fair Value When the Volume and Level of Activity for
the Asset or the Liability Have Significantly Decreased and Identifying
Transactions That Are Not Orderly
  In April
2009, the FASB issued FSP No. FAS 157-4, "Determining Fair Value When the Volume
and Level of Activity for the Asset or the Liability Have Significantly
Decreased and Identifying Transactions That Are Not Orderly," ("FSP No. 157-4").
FSP No. FAS 157-4 amends Statement No. 157 to provide additional guidance on (i)
estimating fair value when the volume and level of activity for an asset or
liability have significantly decreased in relation to normal market activity for
the asset or liability, and (ii) circumstances that may indicate that a
transaction is not orderly. FSP No. FAS 157-4 also requires additional
disclosures about fair value measurements in interim and annual reporting
periods. FSP No. FAS 157-4 is effective for interim and annual reporting periods
ending after June 15, 2009. The Company adopted  FSP No. FAS 157-4 on
April 1, 2009 which did not have a material effect on its consolidated financial
statements.
  SFAS
No. 157, Defining Fair Value Measurements, and FASB Staff Position
157-2
 In
September 2006, the FASB issued SFAS No. 157, “Fair Value
Measurements” (“SFAS 157”), which defines fair value, establishes a framework
for measuring fair value in GAAP, and expands disclosures about fair value
measurements. SFAS 157 does not require any new fair value measurements, but
provides guidance on how to measure fair value by providing a fair value
hierarchy used to classify the source of the information. In February 2008,
the FASB deferred the effective date of SFAS 157 by one year for certain
non-financial assets and non-financial liabilities, except those that are
recognized or disclosed at fair value in the financial statements on a recurring
basis (at least annually). On January 1, 2008, the Company adopted the
provisions of SFAS 157, except as it applies to those nonfinancial assets and
nonfinancial liabilities for which the effective date has been delayed by one
year, which was adopted on January 1, 2009. The adoption of SFAS 157 did
not have a material effect on our financial position or results of operations.
The Company’s financial instruments consist mainly of cash and cash equivalents,
accounts receivable, short-term debt, accounts payable and long-term debt. The
estimated fair value of these financial instruments approximates their carrying
value due to the short-term maturity of certain instruments and the variable
interest rates associated with certain instruments, which have the effect of
re-pricing such instruments regularly. As of June 30, 2009, the Company
estimated the fair value of long term fixed rate debt to be approximately
$8,659,000 compared to its carrying value of $7,972,000.
  8
 
 The fair
value hierarchy distinguishes between assumptions based on market data
(observable inputs) and an entity’s own assumptions (unobservable inputs). The
hierarchy consists of three levels:
 •
              
              Level
      one — Quoted market prices in active markets for identical assets or
      liabilities;•
              
              Level
      two — Inputs other than level one inputs that are either directly or
      indirectly observable; and•
              
              Level
      three — Unobservable inputs developed using estimates and assumptions,
      which are developed by the reporting entity and reflect those assumptions
      that a market participant would
use.
 
 Determining
which category an asset or liability falls within the hierarchy requires
significant judgment. The Company evaluates its hierarchy disclosures each
quarter.  Liabilities measured at fair value on a recurring basis are
summarized as follows (unaudited):
 
 In
      ThousandsJune
      30,Level 1
                      
                      
                      Level 2
                      
                      
                      Level 3
                      
                      
                      2009Fair
      value of warrants
                      
                      $
                      -
                      
                      
                      $
                      146
                      
                      
                      $
                      -
                      
                      
                      $
                      146Total
                      
                      $
                      -
                      
                      
                      $
                      146
                      
                      
                      $
                      -
                      
                      
                      $
                      146
  (4) LOSS
PER SHARE
  In
accordance with Statement of Financial Accounting Standards (“SFAS”)
No. 128, Earnings per
Share, basic and diluted net loss per common share for the three and six
months ended June 30, 2009 and 2008, respectively, is calculated by
dividing the net loss applicable to common stockholders by the weighted average
number of vested shares of common stock outstanding. Common stock equivalents
that were outstanding as of June 30, 2009 and 2008, but were considered
anti-dilutive securities and excluded from the diluted net income per share
calculations, were as presented below:
  June 30,2009
                              
                              
                              2008Options
      outstanding
                              
                              
                              5,384,759
                              
                              
                              
                              4,338,976Warrants
      outstanding
                              
                              
                              8,522,850
                              
                              
                              
                              6,712,979Unvested
      restricted stock grants
                              
                              
                              1,145,971
                              
                              
                              
                              1,862,978Total
      potentially dilutive common stock equivalents
                              
                              
                              15,053,580
                              
                              
                              
                              12,914,933
  (5)
REVENUE RECOGNITION
  The
Company recognizes revenue from sales of products and funded research and
development and product development for commercial companies and government
agencies. The Company recognizes revenue in accordance with SEC Staff Accounting
Bulletin No. 101, “Revenue Recognition in Financial
Statements”(“SAB 101”) as updated by Staff Accounting Bulletin (“SAB”)
104, Revenue
Recognition and Emerging Issues Task Force (“EITF”) 00-21, Revenue Arrangements with Multiple
Deliverables.
  The
Company recognizes revenue from product sales at the time of shipment and when
persuasive evidence of an arrangement exists, performance of the Company’s
obligation is complete, the price to the buyer is fixed or determinable, and
collectability is reasonably assured. The Company’s custom products are supplied
to original equipment manufacturers and produced in accordance with a
customer-approved design. Custom product revenue is recognized when the criteria
for acceptance has been met. Title to the product generally passes upon
shipment, as products are generally shipped FOB shipping point. In certain
limited situations, distributors have the right to return products. Such rights
of return have not precluded revenue recognition because the Company has a long
history with such returns and accordingly is able to estimate a reserve for
their cost.
  9
 
 Revenues
from funded research and development and product development is recognized based
on contractual arrangements, which may be based on cost reimbursement or fixed
fee-for-service models. Revenue from reimbursement contracts is recognized as
services are performed and collectability is reasonably assured. On fixed-price
contracts, revenue is generally recognized on a percentage-of completion basis
based on proportion of costs incurred to the total estimated costs of the
contract or under the proportional method. Over the course of a fixed-price
contract, the Company routinely evaluates whether revenue and profitability
should be recognized in the current period. The Company estimates the
proportional performance on their fixed-price contracts on a monthly basis
utilizing hours incurred to date as a percentage of total estimated hours to
complete the project. If the Company does not have a sufficient basis to measure
progress toward completion, revenue is recognized upon completion of
performance. This method is used because reasonably dependable estimates of
costs and revenue earned can be made, based on historical experience and
milestones identified in any particular contract. When the current estimates of
total contract revenue and contract costs indicate a loss, a provision for the
entire loss on the contract is recorded.
  If a
contract involves the provision of multiple elements and the elements qualify
for separation under EITF 00-21, total estimated contract revenue is allocated
to each element based on the relative fair value of each element provided. The
amount of revenue allocated to each element is limited to the amount that is not
contingent upon the delivery of another element in the future. Revenue is then
recognized for each element as described above.
  (6)
WARRANTY
  The
Company provides warranties on most of its products for periods of between one
to two years. The warranty is limited to the cost of the product and the Company
will repair or replace the product as required. The Company monitors the actual
warranty repair costs and trends versus the reserve as a percent of sales. The
Company periodically adjusts the warranty provision based on the actual
experience and for any particular known instances.
  Warranty
Reserves:
  Six
      Months Ended June 30
                                
                                2009
                                
                                
                                2008In thousandsBalance
      at December 31
                                
                                $
                                253
                                
                                
                                $
                                302Charges
      to costs and expenses
                                
                                
                                33
                                
                                
                                
                                98Account
      write-offs and other deductions
                                
                                
                                (22
                                )
                                
                                
                                (73
                                )Balance
      at June 30
                                
                                $
                                264
                                
                                
                                $
                                327
  (7)
INVENTORIES
  Inventories
are stated at the lower of cost (first-in, first-out basis) or market and
include materials, labor and overhead. Inventories are as follows:
  June
      30,
                              2009
                            
                            
                            December 31,
                              2008In
      thousandsFinished
      goods
                            
                            $
                            952
                            
                            
                            $
                            931Work-in-process
                            
                            
                            460
                            
                            
                            
                            369Raw
      materials
                            
                            
                            2,533
                            
                            
                            
                            2,551Net
      inventories
                            
                            $
                            3,945
                            
                            
                            $
                            3,851
  (8) STOCK
BASED COMPENSATION PLANS AND STOCK-BASED COMPENSATION EXPENSE
  The
Company has stock-based compensation plans for its employees, officers, and
directors. The plans permit the grant of a variety of awards with various terms
and prices as determined by the Governance, Nominating and Compensation
Committee (“GNCC”) of the Company’s Board of Directors.  The grants
vest over terms of two to four years and are priced at fair market value or in
certain circumstances 110% of the fair market value, of the common stock on the
date of the grant. The options are generally exercisable after the period
specified in the option agreement, but no option may be exercised after 10 years
from the date of grant.
  10
  Additionally,
in the case of incentive stock options, the exercise price may not be less than
100% of the fair market value of the Company’s common stock on the date of
grant. However, there is an exception in the case of a grant to an employee who
owns or controls more than 10% of the combined voting power of all classes of
the Company’s stock or the stock of any parent or subsidiary. In that case, the
exercise price shall not be less than 110% of the fair market value on the date
of grant. In the case of non-qualified stock options, the exercise price shall
not be less than 85% of the fair market value of the Company’s common stock on
the date of grant, except in the case of a grant to an independent director, in
which case the exercise price shall be equal to fair market value determined by
reference to market quotations on the date of grant.
  The
Company estimates the fair value of stock options using the Black-Scholes option
pricing model, consistent with the provisions of Statement of Financial
Accounting Standards No. 123(R), Share Based Payment, (“SFAS 123(R)”) and the
Securities and Exchange Commission Staff Accounting Bulletin No. 107, Share
Based Payments, (“SAB 107”).
  Stock
Option Awards
  The fair
value of each option grant is estimated using the Black-Scholes option pricing
model. The fair value is then amortized on a straight-line basis over the
requisite service periods of the awards, which is generally the vesting period.
Use of a valuation model requires management to make certain assumptions with
respect to selected model inputs. Expected volatility was calculated based on
the historical volatility of the Company’s stock, at the time of the award. The
average expected option term was estimated at 5 years. The risk-free interest
rate is based on U.S. Treasury zero-coupon issues assumed at the date of grant
and no dividends were assumed in the calculation. The compensation expense
recognized for all equity-based awards is net of estimated forfeitures for the
six months ending June 30, 2009 and 2008. Forfeitures are estimated based on the
historical trends. The fair value of options at the date of grant was estimated
using the Black-Scholes option pricing model. There were 2,906,996 options
granted during the six months ended June 30, 2009. There were 2,046,572 options
granted in the six months ended June 30, 2008.
  On
January 16, 2009, the GNCC adopted a stock option incentive program for 2009.
The GNCC adopted a policy of granting performance-based options to purchase
shares of the Company’s common stock to various executive officers and key
employees. All options shall vest and become exercisable on the date the Company
publicizes its earnings press release regarding fiscal 2009 results, if the
stated performance goal is met. The Company records the related expense, if any,
over the requisite service period, and assesses the probability of attaining the
performance goals at each reporting date.  If the performance goals
are not met, the options will terminate. Options for a total of 1,865,000 shares
of common stock were granted under this performance-based program on
January 16, 2009. Management has assessed the likelihood of meeting the
performance target, and in its opinion it is unlikely that they will do
so.  As a result, management has reversed the stock compensation
expense booked during the first quarter of approximately $52,000, during the
three months ended June 30, 2009.
  On
March 17, 2008, the GNCC adopted a stock option incentive program for
2008.  Options to purchase a total of 1,522,300 shares of common stock
were granted under this performance-based program on March 17, 2008, all of
which were forfeited when the performance goals were not met. As the performance
goals were not met, the options immediately terminated and the previously
accrued compensation cost of approximately $490,000 was reversed in the fourth
quarter of 2008, resulting in no net compensation recorded in 2008 related to
the program.
  The fair
value of options at the date of grant was estimated using the Black-Scholes
option pricing model. The assumptions for grants during the six months ended
June 30, 2009 were as follows:
 
 Six
      Months Ended
                      June
      30,
                      2009
                  
                  
                  Six
      Months Ended
                      June
      30,
                      2008Volatility
                  
                  
                  101.4%-104.8
                  %
                  
                  
                  98.88
                  %Expected
      option life
                  
                  6.08
      years
                  
                  
                  5.65
      yearsInterest
      rate (risk free)
                  
                  
                  1.54%-2.86
                  %
                  
                  
                  2.54
                  %Dividends
                  
                  
                  N/A
                  
                  
                  
                  N/AWeighted
      average grant date fair value
                  
                  $
                  0.12
                  
                  
                  $
                  0.42
  A summary
of option activity as of June 30, 2009 and changes during the first six months
is presented below:
  11
 
 Options
                              Outstanding
                            
                            
                            Weighted
                              Average
                              Exercise Price
                              per
      Share
                            
                            
                            Weighted
                              Average
                              Remaining
                              Contractual Term
                              (in
      Years)
                            
                            
                            Aggregate Intrinsic
                              Value
                              (in thousands)Balance
      at December 31, 2008
                            
                            
                            2,987,889
                            
                            
                            $
                            3.45
                            
                            
                            
                            4.58
                            
                            
                            $
                            —Granted
                            
                            
                            2,906,996
                            
                            
                            
                            0.15
                            
                            
                            
                            —
                            
                            
                            
                            —Exercised
                            
                            
                            —
                            
                            
                            
                            —
                            
                            
                            
                            —
                            
                            
                            
                            —Cancelled
                            
                            
                            (510,126
                            )
                            
                            
                            0.81
                            
                            
                            
                            —
                            
                            
                            
                            —Balance
      at June 30, 2009
                            
                            
                            5,384,759
                            
                            
                            $
                            1.82
                            
                            
                            
                            7.38
                            
                            
                            $
                            6Vested
      and Exercisable at June 30, 2009
                            
                            
                            1,925,251
                            
                            
                            $
                            4.73
                            
                            
                            
                            3.54
                            
                            
                            $
                            —
  As of
June 30, 2009, there was a total unrecognized compensation cost of approximately
$202,000 related to non-vested stock options outstanding. The cost is expected
to be recognized over the next 1.53 years. There were no options exercised in
the six months ended June 30, 2009 and June 30, 2008.
  Restricted
Share Awards (“RSAs”)
  The
Company has awarded to a number of employees restricted shares of the Company’s
common stock. The RSAs vest in equal annual installments over a period of four
years. The fair market value of the RSAs is based on the fair market value per
share of the Company’s common stock on the date of grant and is amortized over
the vesting period. During the quarter ended June 30, 2009, there were no shares
of restricted stock issued and 96,837 shares of restricted stock vested. During
the six months ended June 30, 2009, there were no shares of restricted stock
issued and 139,584 shares of restricted stock vested.
  A summary
of the status of the Company’s RSAs as of June 30, 2009 and changes during the
first six months is presented below:
  Shares
                              
                              
                              Weighted
                                Average
                                Grant-Date Fair ValueNon-vested
      at December 31, 2008
                              
                              
                              1,368,394
                              
                              
                              $
                              1.17Granted
                              
                              
                              -
                              
                              
                              
                              -Vested
                              
                              
                              (139,584
                              )
                              
                              
                              0.92Cancelled
                              
                              
                              (82,839
                              )
                              
                              
                              1.35Non-vested
      at June 30, 2009
                              
                              
                              1,145,971
                              
                              
                              $
                              1.19
  As of
June 30, 2009, there was a total unrecognized compensation cost of approximately
$885,000, related to non-vested RSAs. The Company expects to recognize the costs
over the next 1.80 years.
  (9)
COMPREHENSIVE LOSS
  SFAS
No. 130, Reporting
Comprehensive Income,requires disclosure of all components of
comprehensive income (loss) on an annual and interim basis. Comprehensive income
(loss) is defined as the change in equity of a business enterprise during a
period from transactions and other events and circumstances from non-owner
sources. The Company’s total comprehensive loss is as follows:
 
 Three
      Months Ended
                                    June 30,
                                  
                                  
                                  Six
      Months Ended
                                    June 30,2009
                                  
                                  
                                  2008
                                  
                                  
                                  2009
                                  
                                  
                                  2008In
      thousandsNet
      loss
                                  
                                  $
                                  (718
                                  )
                                  
                                  $
                                  (2,285
                                  )
                                  
                                  $
                                  (2,325
                                  )
                                  
                                  $
                                  (4,451
                                  )Other
      comprehensive income (loss):
                                  
                                  
                                  —
                                  
                                  
                                  
                                  —
                                  
                                  
                                  
                                  —
                                  
                                  
                                  
                                  —Cumulative
      translation adjustment
                                  
                                  
                                  (127
                                  )
                                  
                                  
                                  40
                                  
                                  
                                  
                                  (151
                                  )
                                  
                                  
                                  (56
                                  )Comprehensive
      loss
                                  
                                  $
                                  (845
                                  )
                                  
                                  $
                                  (2,245
                                  )
                                  
                                  $
                                  (2,476
                                  )
                                  
                                  $
                                  (4,507
                                  )
  12
  (10) GOODWILL
 
 The
changes in the carrying amount of goodwill for the six months ended June 30,
2009 are as follows:
  June
      30, 2009In
      thousandsBalance
      at January 1, 2009
                              
                              $
                              6,588Effect
      of exchange rate
                              
                              
                              550Balance
      at June 30, 2009
                              
                              $
                              7,138
 
 There
were no goodwill impairment losses recorded during the three months or six
months ended June 30, 2009.
 
 (11)
INTANGIBLE ASSETS
  Intangible
assets consist of trademarks, acquired patents and patented technologies,
distributor and customer relationships and related contracts, trade and brand
names and associated logos, technology design and programs, non-compete
agreements and other intangible assets. There are no intangible assets with
indefinite lives. Acquired patented technologies and trademarks are amortized
over their estimated useful lives of between 3 - 16 years.
  Gross
carrying amounts and accumulated amortization of intangible assets were as
follows as of June 30, 2009 for each intangible asset class.
  Gross Carrying
                            Amount
                          
                          
                          Accumulated
                            Amortization
                          
                          
                          Carrying Value(in thousands)Acquired
      patents, patented technology and purchased technology
                          
                          $
                          3,360
                          
                          
                          $
                          (3,180
                          )
                          
                          $
                          180Trademarks
                          
                          
                          471
                          
                          
                          
                          (471
                          )
                          
                          
                          —Acquired
      trade name
                          
                          
                          500
                          
                          
                          
                          (166
                          )
                          
                          
                          334Acquired
      customer contracts and relationships
                          
                          
                          2,030
                          
                          
                          
                          (1,117
                          )
                          
                          
                          913Acquired
      non-compete agreement
                          
                          
                          657
                          
                          
                          
                          (584
                          )
                          
                          
                          73Acquired
      technology design and programs
                          
                          
                          343
                          
                          
                          
                          (114
                          )
                          
                          
                          229Other
                          
                          
                          118
                          
                          
                          
                          (73
                          )
                          
                          
                          45Total
                          
                          $
                          7,479
                          
                          
                          $
                          (5,705
                          )
                          
                          $
                          1,774
  Gross
carrying amounts and accumulated amortization of intangible assets were as
follows as of December 31, 2008 for each intangible asset
class.
  Gross Carrying
                            Amount
                          
                          
                          Accumulated
                            Amortization
                          
                          
                          Carrying Value(in thousands)Acquired
      patents, patented technology and purchased technology
                          
                          $
                          3,353
                          
                          
                          $
                          (3,123
                          )
                          
                          $
                          230Trademarks
                          
                          
                          471
                          
                          
                          
                          (471
                          )
                          
                          
                          -Acquired
      trade name
                          
                          
                          438
                          
                          
                          
                          (118
                          )
                          
                          
                          320Acquired
      customer contracts and relationships
                          
                          
                          1,779
                          
                          
                          
                          (796
                          )
                          
                          
                          983Acquired
      non-compete agreement
                          
                          
                          576
                          
                          
                          
                          (416
                          )
                          
                          
                          160Acquired
      technology design and programs
                          
                          
                          301
                          
                          
                          
                          (82
                          )
                          
                          
                          219Other
                          
                          
                          104
                          
                          
                          
                          (53
                          )
                          
                          
                          51Total
                          
                          $
                          7,022
                          
                          
                          $
                          (5,059
                          )
                          
                          $
                          1,963
  Amortization
of intangible assets was approximately $209,000 and $295,000 for the three
months ended June 30, 2009 and 2008, and approximately $405,000 and
$625,000 for the six months ended June 30, 2009 and 2008.
  13
 
 As of
June 30, 2009, the estimated future amortization expense of intangible assets,
in thousands, is as follows:
  Estimated
      Future Expense
                            In
      thousands2009
                          
                          
                          2010
                          
                          
                          2011
                          
                          
                          2012
                          
                          
                          2013
                          
                          
                          2014
      &
                            thereafterAmortization
      expense of intangible assets
                          
                          $
                          380
                          
                          
                          $
                          486
                          
                          
                          $
                          347
                          
                          
                          $
                          194
                          
                          
                          $
                          194
                          
                          
                          $
                          173
  (12)
DEBT
  A summary
of the Debt Obligations of the Company is as follows:
 June
      30,
                                                  
                                                  
                                                  December
      31,2009
                                                  
                                                  
                                                  2008In
      thousandsAcquired
      note payable to Barclay’s Bank, maturing on November 16, 2009 and
      having an interest rate of 2.5% above Barclay’s base rate (3.0% at June
      30, 2009).
                                                  
                                                  $
                                                  9
                                                  
                                                  
                                                  $
                                                  22Borrowings
      under Revolving Credit facility with Barclay’s Bank Sales Financing, due
      on demand, with an interest rate of 2.65% above Barclay’s base rate (3.15%
      as of June 30, 2009).
                                                  
                                                  
                                                  278
                                                  
                                                  
                                                  
                                                  710*
      Borrowings under line of credit with Laurus Master Fund, Ltd., due on
      demand, with an interest rate of the prime rate plus 1% (4.25% at June 30,
      2009).
                                                  
                                                  
                                                  3,314
                                                  
                                                  
                                                  
                                                  3,159*
      Notes Payable to Laurus Master Fund, Ltd. and affiliates maturing onJune
      30, 2010, with an interest rate of prime plus 2%, and a minimum rate of
      8.0% (8.0% at June 30, 2009), net of unamortized discount of $269 at June
      30, 2009 and $460 at December 31, 2008.
                                                  
                                                  
                                                  2,656
                                                  
                                                  
                                                  
                                                  2,690*
      Note Payable to an affiliate of Laurus Master Fund, Ltd. maturing onJune
      30, 2010, with an interest rate of 10.5%, net of unamortized discount of
      $42 at June 30, 2009 and $90 at December 31, 2008.
                                                  
                                                  
                                                  625
                                                  
                                                  
                                                  
                                                  676Senior
      Fixed Rate Secured Bond to a private investor with an interest rate
      of  12%, maturing on July 30, 2011 net of unamortized
      discount of $147 at June 30, 2009 and $166 at December 31,
      2008
                                                  
                                                  
                                                  2,362
                                                  
                                                  
                                                  
                                                  1,028Senior
      Fixed Rate Secured Bond payable to a private investor, maturing on
      October 31, 2011 with an interest rate of 10%, net of unamortized
      discount of $622 at June 30, 2009 and $798 at December 31,
      2008.
                                                  
                                                  
                                                  2,480
                                                  
                                                  
                                                  
                                                  3,674Bonds
      payable to the former stockholders of Photonic Products Ltd. maturing on
      October 31, 2009, with an interest rate of LIBOR plus 1%, (1.67% at
      June 30, 2009).
                                                  
                                                  
                                                  2,400
                                                  
                                                  
                                                  
                                                  2,400Sub-total
      debt
                                                  
                                                  
                                                  14,124
                                                  
                                                  
                                                  
                                                  14,359Less
      – lines of credit / revolver
                                                  
                                                  
                                                  (3,592
                                                  )
                                                  
                                                  
                                                  (3,869
                                                  )Less—Current
      portion of long-term debt, net of discount
                                                  
                                                  
                                                  (6,723
                                                  )
                                                  
                                                  
                                                  (4,118
                                                  )Total
      long-term debt
                                                  
                                                  $
                                                  3,809
                                                  
                                                  
                                                  $
                                                  6,372
  * See
footnote 16 relating to amendments subsequent to June 30, 2009.
  14
  Laurus
Master Fund
  Line of Credit
Agreement:
  On
June 28, 2006, the Company entered into a Security and Purchase Agreement
with Laurus Master Fund, Ltd (“Laurus”). Under the Security and Purchase
Agreement, a three-year revolving line of credit was established. The proceeds
from this line of credit were used to pay in full the outstanding amount under a
previously outstanding credit facility between the Company and a bank.
Additional amounts borrowed under the line of credit from time to time may be
used for the Company’s working capital needs. The Security and Purchase
Agreement provides for a revolving line of credit not to exceed an aggregate
principal amount of $4 million and grants a security interest in and lien upon
all of the Company’s assets in favor of Laurus. The Company may borrow a total
amount at any given time up to $4 million limited to qualifying receivables and
inventories as defined in the agreement.
  The outstanding principal under the
revolver accrues interest at an annual rate of 1% above the prime rate. The
interest rate was 4.25% as of June 30, 2009. The Company may elect to prepay the
revolver at any time, in whole or in part, without penalty or premium. All
unpaid principal plus accrued but unpaid interest was due and payable on
June 28, 2009. On July 28, 2009 Laurus entered into a Waiver and Amendment
with the Company, dated as of July 16, 2009, under which Laurus waived
any default that may have arisen
on or before June 28, 2009 and extended the term of the note until October 15,
2009. (see footnote 16)
 
 On
March 31, 2008, Laurus granted the Company the ability to borrow up to
$500,000 over the limit defined by qualified receivables and inventory for one
year, expiring March 31, 2009. In consideration, the Company issued and
sold to Laurus 100,000 shares of its common stock at a per share purchase price
of $.01, for an aggregate purchase price of $1,000, and extended the term of all
outstanding warrants issued to Laurus for an additional 5 years.  On
April 16, 2009, the Company and Laurus entered into an agreement, effective
March 31, 2009, to extend the overadvance by amending the note.  The
amendment grants a fee, payable in cash, to Laurus of $400,000 on June 30,
2010.    This $400,000 has been expensed over the three
month period of the extension.  On July 28, 2009 Laurus entered into a
Waiver and Amendment with the Company, dated as of July 16, 2009, under which
Laurus waivedany
default that may have arisen on or before June 28, 2009 and extended the term of
the note until October 15, 2009.  (see footnote 16)
 
 At June
30, 2009, $3,314,324 was outstanding under the line of credit, which included
the $500,000 overadvance, and was classified as lines of
credit/revolver.  The credit line was overdrawn at June 30, 2009 by
approximately $121,000, which is due and payable.
 
 At
December 31, 2008, $3,159,324 was outstanding under the line of credit,
which included the $500,000 over draft, and was classified as lines of
credit/revolver. The credit line availability at December 31, 2008 was
approximately $235,000.
 
 Term Note
Payable:
  On
December 30, 2005, under the terms of a Securities Purchase Agreement, the
Company issued a secured term note in the aggregate principal amount of $4
million to Laurus. The note is collateralized by certain assets of the
Company.  On June 19, 2007, the Company and Laurus entered into a
Note Amendment Agreement to the December 2005 secured term note. In connection
with the amendment, the Company entered into a Securities Purchase Agreement
with Laurus under which the Company borrowed $2,318,180 and issued a Secured
Term Note to Laurus. The amendment extended the maturity date of the
December 30, 2005 note from December 30, 2008 to June 30, 2010.
The Company agreed to make monthly payments of principal and interest on the
note beginning on July 1, 2007. The Company may elect to prepay the note
provided that if such prepayment occurs during the third year of the date
of issuance, the Company shall pay a 5% prepayment penalty.
  On
December 28, 2007, the Company issued amended and restated secured term
notes to Laurus and its assignees, PSource Structured Debt Limited (“PSource”)
and Valens U.S. SPV I (“Valens”), both affiliates of Laurus. Under the terms of
the amended notes the Company borrowed an additional $1.0 million from Valens.
The notes amended and restated the secured term notes dated December 30,
2005 and June 19, 2007. The terms of the note issued to Valens are the same
as the note issued to Laurus on June 19, 2007. The $1.0 million portion of
the Valens note will accrue interest at an annual rate of 10.5%. The monthly
principal payments are $108,000.  Laurus, PSource and Valens rights
under the notes are secured by a security interest in certain assets of the
Company.
  15
  On July
31, 2008, the Company signed an agreement with Valens and PSource, to defer the
principal payments of the term notes in the amount of $108,333 per month, for
the period of August 1, 2008 to October 1, 2008.  The Company
continued to make monthly interest payments during this period.
  On
November 17, 2008, the Company signed an agreement with Valens and PSource, to
defer the principal payments of the term notes in the amount of $108,333 per
month, for the period of December 1, 2008 to February 1, 2009.  The
Company continued to make monthly interest payments during this
period.
  On July
28, 2009, Laurus, Valens and PSource, entered into a Waiver and Amendment with
the Company, dated as of July 16, 2009, under which they deferredtheprincipal payments due
during the period commencing on June 1, 2009 through and including October 1,
2009.  All amounts deferred during this period are payable in full on
October 15, 2009. (see footnote 16)
  At
June 30, 2009, $3,591,673 was outstanding under the combined notes, all of
which has been classified as short-term debt and reported net of $310,722 of
unamortized debt discount.
 
 At December 31, 2008, $3,916,671
was outstanding under the combined notes, which was classified as $1,408,326
short-term debt and $2,508,345 long-term debt and reported net of $550,794 of
unamortized debt discount, which was classified as $418,176 short-term and
$132,618 long-term.
  Private
Investor Notes and Bonds
  Photonic
Products Ltd. Financing
  On
October 31, 2006, StockerYale (UK) Ltd. issued a 10% Senior Fixed Rate
Secured Bond to the Eureka Interactive Fund Ltd. (Eureka) in the original
principal amount of $4,750,000. The bond is due on October 31, 2011.
StockerYale (UK) Ltd. agreed to make payments of principal and interest over the
term; however, during the first twelve months of the term of the bond, only
accrued interest will be required to be paid (no payments of principal will be
required) and an amount equal to 50% of the original principal sum of $4,750,000
will be paid on October 31, 2011. The outstanding principal on the bond
accrues interest at an annual rate of 10%. StockerYale (UK) Ltd. may prepay the
bond at any time, in whole or in part, without penalty or premium. The bond is
secured by all of the equity interests of Photonic Products Ltd. owned by
StockerYale (UK) Ltd. The Company used the net proceeds to make the cash payment
for the acquisition of Photonic Products Ltd. The remaining proceeds were used
for transaction fees and working capital.
  If
StockerYale (UK) Ltd. prepays all amounts outstanding under the bond prior to
the third anniversary of the date of issuance, then the number of shares of the
Company’s common stock purchasable upon exercise of the warrant issued to Eureka
shall be changed to 2,137,500 if the bond is repaid in full prior to the third
anniversary of the date of issuance.
  On
August 16, 2007, Eureka agreed to transfer certain promissory notes and the
bond described above, as well as all of the unexercised warrants previously
issued to Eureka, to a private investor.
  On May
27, 2008, the same private investor loaned the company an additional $500,000
payable over the remaining term of the original loan, at the same fixed 10%
interest rate.
  On
October 30, 2008, the private investor agreed to forego principal payments on
the combined notes for the months of September 2008 through December
2008.  In consideration, the Company agreed to issue to the private
investor an aggregate of 616,743 shares of common stock of the
Company.
 
 On
January 13, 2009, the private investor agreed to forego six monthly
principal payments due under the Bond from January 2009 to June 2009 totaling
$370,044, with monthly principal payments resuming on July 1, 2009. In
consideration, the Company agreed to issue to the private investor an aggregate
of 1,480,176 shares of the common stock of the Company.
  On June
9, 2009, the private investor and the Company entered into a Transfer Agreement
under which they agreed to transfer $1,000,000 of debt (the “Transfer Amount”)
from the Bond to the Senior Fixed Rate Secured Bond described
below.
  At
June 30, 2009, $3,101,881 remained outstanding under the combined note
which has been classified as $740,091 short-term debt and $2,361,790 long- term
debt and reported net of $622,112 of unamortized debt discount, which has been
reported as $311,229 as short-term and $310,883 as long-term.
  16


At
December 31, 2008, $4,471,926 remained outstanding under the combined note
which was classified as $740,091 short-term debt and $3,731,835 long- term debt
and reported net of $798,251 of unamortized debt discount, which was reported as
$338,595 as short-term and $459,656 as long-term.
  StockerYale
Ireland Senior Fixed Rate Secured Bond
  On
July 24, 2008, StockerYale (IRL) Ltd. issued a three-year 12% Senior Fixed
Rate Secured Bond to a private investor in the original principal amount of
€935,000 ($1,472,905 at July 24, 2008) secured by all of the assets of
StockerYale (IRL) Ltd. The bond matures on July 30, 2011. StockerYale (IRL)
Ltd. agreed to make payments of principal and interest of approximately €31,000
over the term beginning August 30, 2008. The outstanding principal on the
bond accrues interest at an annual rate of 12%. StockerYale (IRL) Ltd. may
prepay the bond at any time, in whole or in part, without penalty or premium.
The Company used the net proceeds for working capital.
  On June
9, 2009, the same private investor loaned the company an additional $500,000
payable over the remaining term of the original loan, at the same fixed 12%
interest rate.  As a part of the agreement, the Company issued to the
private investor additional ten-year common stock warrants to purchase 500,000
shares of common stock at an exercise price per share of $0.10. An additional
debt discount was recorded in the amount of $38,086 and is being amortized over
the remaining life of the note. The Company used the Black-Scholes Model to
calculate the fair value of the warrants. The underlying assumptions included in
the Black-Scholes Model were: a risk-free interest rate of 3.86%, an expected
life of seven years, an expected volatility of 105.04% and no dividend
yield.
  Also on
June 9, 2009, the Company and private investor entered into a Transfer Agreement
under which they agreed to transfer $1,000,000 of debt (the “Transfer Amount”)
from the StockerYale UK Bond described above to the Senior Fixed Rate Secured
Bond.  Interest accrues and is payable monthly and the amount is
payable on July 30, 2011.
  At
June 30, 2009, $2,508,705 remained outstanding under the bond, which has
been classified as $701,238 short-term debt and $1,807,467 long-term debt and
reported, net of $146,670 of unamortized debt discount, which has been reported
as $97,603 short-term and $49,067 long-term.
  At
December 31, 2008, $1,193,829 remained outstanding under the bond, which
was classified as $403,817 short-term debt and $790,012 long-term debt and
reported, net of $165,810 of unamortized debt discount, which was reported as
$100,050 short-term and $65,760 long-term.
  Barclay’s
Bank, PLC
  On
February 6, 2008, the Company’s Photonic Products subsidiary entered into a
Confidential Invoice Discounting Agreement with Barclay’s Bank Sales Financing
(“Barclay’s”). Under the Discounting Agreement, a three-year revolving line of
credit was established. The Discounting Agreement provides for a revolving line
of credit and grants a security interest in and lien upon all of Photonic
Products’ trade receivables in favor of Barclay’s.
  The
facility requires the maintenance of certain covenants. The Company may elect to
prepay amounts due under the facility at any time, in whole or in part, upon 3
months notice. If the prepayment amount comes before the end of the ‘Minimum
Period of the Agreement’, Barclay’s reserves the right to charge fees in
accordance with the terms and conditions of the agreement.  On June
26, 2009, Photonic Products agreed to amend the terms of the Agreement with
Barclay’s. Under the amended terms, the maximum amount allowed outstanding under
the line of credit is £650,000 ($1,070,000 USD).  The outstanding
principal under the note accrues interest at an annual rate of 2.65% above
Barclay’s base rate. The interest rate was 3.15% as of June 30,
2009.
  The
amount outstanding under the facility was approximately $278,000 as of June 30,
2009 and $710,000 as of December 31, 2008, all of which was classified as short
term debt under revolving lines of credit.
 
 (13)
DISCONTINUED OPERATIONS
  During
2005, the Company’s management and the Board of Directors made a decision to
discontinue its Singapore operation as well as its fiber optic illumination and
galvanometer businesses.
  During
2006, the Company completed the divestitures of these three businesses in
exchange for aggregate consideration of up to $525,000 in cash and notes
receivable and a 5% royalty on future sales of a specific product royalty up to
a maximum of $35,000.
  17
  Amounts
recorded as income from discontinued operations for the six months ended June
30, 2009 and 2008, primarily resulted from additional cash consideration
received under certain notes receivable.
  (14)
COMMITMENTS AND CONTINGENCIES
  Lease
obligation treated as financing
  On December 30, 2005, the Company
closed a sale-leaseback transaction on the Company’s Salem, New Hampshire
headquarters with 55 Heritage LLC. The lease agreement grants the Company the
option to extend the initial term for a period of five years. Because the
transaction did not qualify as a sale for Generally Accepted Accounting
Principles (GAAP) reporting purposes under SFAS 66,Accounting for
Sales of Real Estateand
SFAS 98,Accounting for
Leases,the net proceeds
were classified as a financing lease obligation. This was primarily due to the
terms of the lease agreement. Accordingly, the Company continues to carry the
value of the building on its balance sheet and record depreciation expense until
the criteria to record a sale are met. The Company continues to account for the
financing lease in accordance with the provisions of SFAS
98.
  During
the quarter ended June 30, 2009, the Company recorded $67,000 as non-cash
interest expense and $15,000 as a decrease of the lease obligation due to a
reduction in the deposit amount left with the landlord of $29,000 during the
second quarter of 2009. For the six months ended June 30, 2009, the Company
recorded $136,000 as non-cash interest expense and $28,000 as an increase of the
lease obligation.
  At June
30, 2009, $3,640,000 was recorded on the balance sheet as a financing lease
obligation, which was classified as $428,000 short-term obligation and
$3,212,000 long-term obligation, and has been reported net of a $100,000
deposit. The net book value of the building at June 30, 2009 was approximately
$3,259,000.
  At
December 31, 2008, $3,669,000 was recorded on the balance sheet as a
financing lease obligation, which has been classified as $444,000 short-term
obligation and $3,225,000 long-term obligation, and has been reported net of a
$157,500 deposit. The net book value of the building at December 31, 2008 was
approximately $3,410,000.
 
 Other
obligations
 
 The
Company’s Canadian subsidiary, StockerYale Canada Inc., conducts research and
development, manufacturing, sales and administration from a property located at
275 Kesmark Street, Montreal, Quebec, Canada. StockerYale Canada leases
approximately 60,000 square feet of the Montreal property for an initial term of
ten years ending December 2015. The rent during the ten-year term ranges from
approximately Cdn. $416,031 to Cdn. $469,521 per year plus all operating costs.
StockerYale Canada has an option to extend the initial term of the lease for an
additional term of five years. StockerYale Canada sub-leases portions of the
facility
  On June
12, 2008, StockerYale (IRL) Ltd. entered into a lease commitment for its
operations in Cork, Ireland.  The lease term began on August 22, 2008
for an initial term of five years with rent and service charges of approximately
€102,000 per year.
  Photonics
Products Ltd. leases approximately 13,000 square feet of space in Hatfield Broad
Oak, Hertfordshire, UK. The lease runs for a term of nine years ending September
29, 2013. It also leases approximately 4,000 square feet in Bishops
Stortford, UK, through September 2011, which has been
sublet.   Photonic Products Ltd. also leases sales offices in
Grobenzell, Germany and Huntington Beach, California.
  (15)
SEGMENT INFORMATION
  SFAS
No. 131 (“SFAS 131”), Disclosures about Segments of an
Enterprise and Related information, requires financial and supplementary
information to be disclosed on an annual and interim basis of each reportable
segment of an enterprise. SFAS 131 also establishes standards for related
disclosures about product and services, geographic areas and major customers.
Operating segments are identified as components of an enterprise about which
separate discrete financial information is available for evaluation by the chief
decision-making group, in making decisions how to allocate resources and assess
performance. The Company’s chief decision-maker is the Chief Executive Officer.
The Company’s accounting policies and method of presentation for segments is
consistent with that used throughout the consolidated financial
statements.
  18
  The
Company operates in three segments: lasers, Photonic Products, and optical
components.  In the laser segment, the Company acts as an independent
designer and manufacturer of LasirisTM brand
lasers and light emitting diode (“LED”) systems for the inspection, machine
vision, medical and military markets. The Photonic Products segment distributes
laser diodes and designs and manufactures custom laser diodes modules for
industrial, commercial and medical applications. In its optical component
segment, the Company develops and manufactures specialty optical fiber,
fiber-based assemblies and diffractive optics such as phase masks used primarily
in the telecommunications, defense, and medical markets by original equipment
manufacturers. The policies relating to segments are the same as the Company’s
corporate policies.
  The
Company evaluates performance and allocates resources based on revenues and
operating income (loss). The operating loss for each segment includes selling,
research and development and expenses directly attributable to the segment. In
addition, the operating loss includes amortization of acquired intangible
assets, including any impairment of these assets and of goodwill. Certain of the
Company’s indirect overhead costs, which include corporate general and
administrative expenses, are allocated between the segments based upon an
estimate of costs associated with each segment. Segment assets include accounts
receivable, inventory, machinery and equipment, goodwill and intangible assets
directly associated with the product line segment.
  All
revenues and costs associated with our discontinued businesses have been
eliminated from segment reporting, so that the net effect is to report from
continuing operations only.
  19
    Three
      Months Ended June 30, 2009
                      
                      
                      Three
      Months Ended June 30, 2008Lasers
                      
                      
                      Photonic
                        Products
                      
                      
                      Optical
                        Components
                      
                      
                      Total
                      
                      
                      Lasers
                      
                      
                      Photonic
                        Products
                      
                      
                      Optical
                        Components
                      
                      
                      TotalNet
      Sales
                      
                      $
                      3
      ,405
                      
                      
                      $
                      1,795
                      
                      
                      $
                      817
                      
                      
                      $
                      6,017
                      
                      
                      $
                      5,026
                      
                      
                      $
                      2,714
                      
                      
                      $
                      807
                      
                      
                      $
                      8,547Gross
      Profit
                      
                      
                      1,424
                      
                      
                      
                      382
                      
                      
                      
                      225
                      
                      
                      
                      2,030
                      
                      
                      
                      2,030
                      
                      
                      
                      677
                      
                      
                      
                      197
                      
                      
                      
                      2,904Operating
      Loss
                      
                      
                      (469
                      )
                      
                      
                      (265
                      )
                      
                      
                      (186
                      )
                      
                      
                      (919
                      )
                      
                      
                      (1,094
                      )
                      
                      
                      (188
                      )
                      
                      
                      (289
                      )
                      
                      
                      (1,571
                      )
 
 Six
      months Ended June 30, 2009
                  
                  
                  Six
      months Ended June 30, 2008Laser
                  
                  
                  Photonic
                    Products
                  
                  
                  Optical
                    Components
                  
                  
                  Total
                  
                  
                  Lasers
                  
                  
                  Photonic
                    Products
                  
                  
                  Optical
                    Components
                  
                  
                  TotalNet
      sales
                  
                  $
                  6,892
                  
                  
                  $
                  3,659
                  
                  
                  $
                  1,785
                  
                  
                  $
                  12,336
                  
                  
                  $
                  9,141
                  
                  
                  $
                  5,747
                  
                  
                  $
                  1,721
                  
                  
                  $
                  16,609Gross
      Profit
                  
                  
                  2,944
                  
                  
                  
                  871
                  
                  
                  
                  605
                  
                  
                  
                  4,420
                  
                  
                  
                  3,415
                  
                  
                  
                  1,464
                  
                  
                  
                  484
                  
                  
                  
                  5,363Operating
      loss
                  
                  
                  (1,052
                  )
                  
                  
                  (467
                  )
                  
                  
                  (301
                  )
                  
                  
                  (1,820
                  )
                  
                  
                  (2,040
                  )
                  
                  
                  (476
                  )
                  
                  
                  (582
                  )
                  
                  
                  (3,098
                  )
  June
      30, 2009
                      
                      
                      December
      31, 2008Lasers
                      
                      
                      Photonic
                        Products
                      
                      
                      Optical
                        Components
                      
                      
                      Corporate
                      
                      
                      Total
                      
                      
                      Lasers
                      
                      
                      Photonic
                        Products
                      
                      
                      Optical
                        Components
                      
                      
                      Corporate
                      
                      
                      TotalTotal
      current assets
                      
                      $
                      5,539
                      
                      
                      $
                      1,759
                      
                      
                      $
                      568
                      
                      
                      $
                      1,153
                      
                      
                      $
                      9,019
                      
                      
                      $
                      5,532
                      
                      
                      $
                      2,049
                      
                      
                      $
                      544
                      
                      
                      $
                      1,622
                      
                      
                      $
                      9,747Property,
      plant & equipment, net
                      
                      $
                      2,520
                      
                      
                      $
                      487
                      
                      
                      $
                      1,910
                      
                      
                      $
                      3,400
                      
                      
                      $
                      8,317
                      
                      
                      $
                      2,271
                      
                      
                      $
                      480
                      
                      
                      $
                      2,167
                      
                      
                      $
                      3,578
                      
                      
                      $
                      8,496Acquired
      intangible assets, net
                      
                      $
                      66
                      
                      
                      $
                      1,594
                      
                      
                      $
                      114
                      
                      
                      
                      —
                      
                      
                      $
                      1,774
                      
                      
                      $
                      70
                      
                      
                      $
                      1,735
                      
                      
                      $
                      158
                      
                      
                      
                      —
                      
                      
                      $
                      1,963Goodwill
                      
                      $
                      2,677
                      
                      
                      $
                      4,453
                      
                      
                      $
                      8
                      
                      
                      
                      —
                      
                      
                      $
                      7,138
                      
                      
                      $
                      2,677
                      
                      
                      $
                      3,903
                      
                      
                      $
                      8
                      
                      
                      
                      —
                      
                      
                      $
                      6,588Other
      long-term assets
                      
                      $
                      225
                      
                      
                      $
                      —
                      
                      
                      $
                      —
                      
                      
                      $
                      2
                      
                      
                      $
                      227
                      
                      
                      $
                      213
                      
                      
                      $
                      133
                      
                      
                      $
                      -
                      
                      
                      $
                      302
                      
                      
                      $
                      648Total
                      
                      $
                      11,027
                      
                      
                      $
                      8,293
                      
                      
                      $
                      2,600
                      
                      
                      $
                      4,555
                      
                      
                      $
                      26,475
                      
                      
                      $
                      10,763
                      
                      
                      $
                      8,300
                      
                      
                      $
                      2,877
                      
                      
                      $
                      5,502
                      
                      
                      $
                      27,442
  The
Company’s sales by geographic region are denominated in U.S. dollars. These
sales are as follows:
 
 Three Months Ended
                                June 30,
                              
                              
                              Six
      Months Ended
                                June 30,Sales
      by region
                              
                              2009
                              
                              
                              2008
                              
                              
                              2009
                              
                              
                              2008Domestic
      – United States
                              
                              $
                              3,502
                              
                              
                              $
                              3,915
                              
                              
                              $
                              6,774
                              
                              
                              $
                              7,572Canada
                              
                              
                              420
                              
                              
                              
                              511
                              
                              
                              
                              849
                              
                              
                              
                              1,078Europe
                              
                              
                              1,779
                              
                              
                              
                              3,033
                              
                              
                              
                              4,059
                              
                              
                              
                              5,904Asia
                              
                              
                              284
                              
                              
                              
                              844
                              
                              
                              
                              471
                              
                              
                              
                              1,711Other
                              
                              
                              32
                              
                              
                              
                              244
                              
                              
                              
                              183
                              
                              
                              
                              344Total
                              
                              $
                              6,017
                              
                              
                              $
                              8,547
                              
                              
                              $
                              12,336
                              
                              
                              $
                              16,609
 
  20
  (16) SUBSEQUENT
EVENTS
 
 On July
28, 2009, the Company entered into a Waiver and Amendment with Laurus and its
affiliates, dated as of July 16, 2009, to amend the line of credit under the
Security and Purchase agreement and the Term Note Payable (see footnote
12).  The Waiver and Amendment extends the due date of the line of
credit from June 28, 2009 to October 15, 2009 and revises the interest rate on
the outstanding balance to 10% per annum.  In addition, the term notes
payable are amended to defer principal payments between June 1, 2009 through
October 1, 2009 which shall become payable on October 15, 2009 and revises the
interest rate on the outstanding balances to 12% per annum.
  21
  Item 2.
Management’s Discussion and Analysis of Financial Condition and Results of
Operations.
  The
following discussion of the consolidated financial condition and results of
operations of the Company should be read in conjunction with the unaudited
condensed consolidated financial statements and the related notes thereto
included elsewhere in this Form 10-Q. Except for the historical information
contained herein, the following discussion, as well as other information in this
report, contains forward-looking statements within the meaning of
Section 27A of the Securities Act of 1933, as amended, and Section 21E
of the Securities Exchange Act of 1934, as amended, and is subject to the “safe
harbor” created by those sections. Some of the forward-looking statements can be
identified by the use of forward-looking terms such as “believes,” “expects,”
“may,” “will,” “should,” “could,” “seek,” “intends,” “plans,” “estimates,”
“anticipates” or other comparable terms. Forward-looking statements involve
inherent risks and uncertainties. A number of important factors could cause
actual results to differ materially from those in the forward-looking
statements. We urge you to consider the risks and uncertainties described in
“Risk Factors” in this report and in our annual report on Form 10-K for the year
ended December 31, 2008. We undertake no obligation to update our
forward-looking statements to reflect events or circumstances after the date of
this report. We caution readers not to place undue reliance upon any such
forward-looking statements, which speak only as of the date made.
  Overview
  StockerYale,
Inc. is an independent designer and manufacturer of structured light lasers, LED
systems, and specialty optical fibers and phase masks for industry-leading
original equipment manufacturers (OEMs), as well as a distributor of visible,
infrared and blue violet laser diodes. Our illumination products include the
Lasiris and Photonic Products brands of laser diode modules, diodes, and LED
systems for the machine vision, industrial inspection, defense and security,
biomedical and medical markets. Our products are sold to over 1,500 customers,
primarily in North America, Europe and the Pacific Rim. We sell directly to, and
work with, a group of distributors and machine vision integrators to sell their
specialized illumination products.
  RESULTS
OF OPERATIONS
  The
following discussion should be read in conjunction with the attached unaudited
condensed consolidated financial statements and notes thereto and with our
audited financial statements and notes thereto included in the Company’s annual
report on Form 10-K for the year ended December 31, 2008 and the unaudited
condensed consolidated financial statements and notes thereto included in the
Company’s quarterly report on Form 10-Q for the quarter ended March 31,
2009.
  We are a
leader in the design, development and manufacturing of low power laser modules
and related optics.  In addition, we distribute laser diodes for
leading diode manufacturers, and develop and manufacturer LED systems and
specialty optical fiber (SOF). Since 1990 we have grown through internal
expansion and through strategic acquisitions of technology and complimentary
businesses. StockerYale is recognized as the only photonics company that
possesses the design and manufacturing know-how in four different photonic
technologies: diode-based lasers, LEDs, specialty optical fiber and diffractive
optics. We also distribute laser diodes through our Photonic Products
subsidiary. Our products serve a wide range of applications and industries
including machine vision and industrial inspection, biomedical and medical,
defense and security, and other commercial applications. Our advanced
technologies are driven by a deep understanding of the needs of our customers
and the industries in which they work.
  Management
took a number of actions during 2008 and the first half of 2009 to improve the
Company’s operational efficiency and to improve its overall financial
performance.  In addition, in response to the general economic
slowdown that began in late 2008, management initiated a number of actions to
improve cash flow and liquidity recognizing that the economy could negatively
impact the future performance of the Company.  These actions
include:
  ·
              Customer-driven
      new product development to provide our customers and potential customers
      with an array of leading edge
products;
  ·
              Reduction
      of our overall cost structure in a variety of ways
      including:  reduction of work force, salary reductions,
      improvements in supply chain management and material
  costs;
  ·
              Improvements
      in working capital through focused management of inventory and accounts
      receivable; and
  ·
              Further
      cost reductions, as necessary and able, in order to improve cash
      flow.
  22
  We are
considering different ways to raise additional capital including the sale of our
equity securities, offerings of debt securities, or borrowings from financial
institutions. We are in discussions with potential lenders to refinance the
North American revolving credit facility as well as potential lenders to
refinance portions of the term debt of the Company.  However, there
can be no assurance that such activities will result in
refinancing.  We have engaged Needham & Company, LLC to assist us
in reviewing and evaluating our financial and strategic
alternatives.
  We intend
to pursue various options to finance and fund operations, as necessary, through
the end of 2009. We cannot be sure of the timing or terms of any borrowing
arrangements or equity offerings, or that we will be able to consummate one or
more of these options. If we do not achieve these goals in 2009, we would
implement contingency plans for additional cost reductions; however, there is a
possibility that we would not have adequate capital to sustain our current
operations.
  The
Company’s common stock trades on the OTC Bulletin Board under the ticker symbol
“STKR.OB”.
  OPERATING
RESULTS OF CALENDAR QUARTERS ENDED JUNE 30, 2009 AND 2008
  Net
Sales
  Net sales
were $6.0 million for the three months ended June 30, 2009, a 30% decrease from
$8.5 million for the second quarter of 2008. The decrease in sales was mainly
due to decreased demand from the laser segment (34%) and Photonic Products
segment (35%).  The decrease also includes the negative impact of
foreign currency translation of approximately $520,000 of which $354,000 is
related to the Photonic Products decrease from the prior year.
  Gross
Profit
  Gross
profit was $2.0 million for the three months ended June 30, 2009, compared to
$2.9 million for the second quarter of 2008. During the three months ended June
30, 2009, gross margin was 33.7% compared with 34.0% in the second quarter of
2008.  The decline in gross profit results from lower net sales
partially offset by lower costs resulting from cost reduction initiatives taken
during the past nine months and includes positive impact of foreign currency
translation of approximately $251,000 versus the prior year.
  Operating
Expenses
  Operating
expenses totaled $2.7 million for the second quarter of 2009, decreasing 34%
from $4.1 million for the second quarter of 2008. The decrease in expenses from
the prior year was primarily due to acquisition costs for Virtek Vision
International, Inc. of $307,000 in 2008, lower costs in 2009 due to cost
reduction initiatives of approximately $560,000, and favorable foreign currency
impact in 2009 of approximately $400,000.
  Operating
loss was $0.9 million compared with an operating loss of $1.6 million for the
second quarter of 2008. Operating losses decreased due to actions taken to
decrease the Company’s cost structure as well as a $0.7 million benefit from
favorable foreign currency translations.
  Non-Operating
Expenses
  Other
expenses, which are comprised primarily of non-cash debt discount financing
costs and foreign currency translation adjustments, resulted in income of
$365,000 for the three months ended June 30, 2009, versus expenses of $778,000
in the three months ended June 30, 2008. The benefit arose from translation
adjustments due to the weakening of the US dollar against the British Pound
(GBP), Euro and the Canadian dollar (CAD) of approximately $1.4 million, a gain
of approximately $109,000 from a valuation reduction of the warrant liability,
offset by warrant and debt acquisition expenses of approximately
$300,000.
  Net
Loss
  Net loss
including discontinued operations was $0.7 million or $0.02 per share. This
compares to net loss of $2.3 million or $0.06 per share for the second quarter
of 2008.
  Benefit
for Income Taxes
  Our
historical operating losses raise doubt about our ability to realize the
benefits of our deferred tax assets. As a result, we provide a valuation
allowance for the net deferred tax assets that may not be realized. We recorded
a deferred tax provision of approximately $164,000 in the three months ended
June 30, 2009, related to one of our non-U.S. based subsidiaries.  We
recorded a deferred tax benefit of approximately $62,000 in the three months
ended June 30, 2008, related to the same non-U.S. based
subsidiary.
  23
  SIX
MONTHS ENDED JUNE 30, 2009 AND 2008
  Net
Sales
  Net sales
were $12.3 million for the six months ended June 30, 2009, a 26% decrease from
$16.6 million for the six months ended June 30, 2008. The decrease in sales was
mainly due to decreased demand from the laser segment (27%) and the Photonic
Products segment (37%).  The decrease also includes the negative
impact of foreign currency translation of approximately $1.2 million of which
$838,000 is related to the Photonic Products decrease from the prior
year.
  Gross
Profit
  Gross
profit was $4.4 million for the six months ended June 30, 2009. This
represents an 18% decrease from $5.4 million for the first six months of 2008.
During the six months ended June 30, 2009, gross margin was 36% compared
with 32% in the comparable period of 2008, mainly due to the cost reduction
actions taken in late 2008 and during 2009.  In addition, the gross
profit was favorably impacted from foreign currency exchange of approximately
$640,000.
  Operating
Expenses
  Operating
expenses totaled $5.8 million for the six months ended June 30, 2009,
versus $7.8 million in the same period of 2008.   The decrease in
operating expense was mainly due to actions taken to decrease the Company’s cost
structure in 2009, acquisition related expenses of $307,000 related to the
Virtek Vision International, Inc. acquisition activities in 2008, and the
favorable impact from foreign currency exchange in 2009 of approximately
$950,000.
  Operating
loss was $1.8 million compared with operating losses of $3.1 million for the
same period of 2008.
  Non-Operating
Expenses
  Other
expenses, which are comprised primarily of non-cash debt discount financing
costs and foreign currency translation adjustments, showed an expense of $0.5
million for the six months ended June 30, 2009, versus an expense of $1.5
million during the six months ended June 30, 2008.  The change in
expense was mainly from translation adjustments due to the weakening of the US
dollar against the British Pound (GBP), Euro and the Canadian dollar (CAD), of
approximately $1.3 million, a gain on the valuation of the warrant liability of
approximately $145,000, offset by an increase in warrant and debt acquisition
expenses of approximately $525,000.
  Net
Income (Loss)
  Net loss
including discontinued operations was $2.3 million or $0.5 per share. This
compares to net loss of $4.5 million or $0.12 per share for the first six months
of 2008.
  Provision
(Benefit) for Income Taxes
  Our
historical operating losses raise doubt about our ability to realize the
benefits of our deferred tax assets. As a result, we provide a valuation
allowance for the net deferred tax assets that may not be realized. We recorded
a deferred tax benefit of approximately $9,000 for the six months ended
June 30, 2009, related to the same non-U.S. based subsidiary compared to
$122,000 for the six months ended June 30, 2008.
  LIQUIDITY
AND CAPITAL RESOURCES
  Our cash
balance was $1.2 million at June 30, 2009 versus $1.6 million at
December 31, 2008 primarily as a result of the principal and interest
payments and payments against revolving lines of credit, which were partially
offset by a new loan in the amount of $0.5 million from a private
investor.
  As of
June 30, 2009, our net accounts receivable balance was $3.4 million compared to
$3.9 million at year end. Our days sales outstanding increased from 50 days at
December 31, 2008 to 52 days at June 30, 2009.
  24
  Inventories
at June 30, 2009 were flat to the $3.9 million at December 31,
2008.
  Capital
spending for the six months ending June 30, 2009 was $356,000. The Company has
no material contingent capital expenditure commitments as of June 30, 2009 but
has plans to purchase approximately $139,000 of capital items between
July 1, 2009 and December 31, 2009.
  As of
June 30, 2009, the Company may not have sufficient liquidity and working capital
to meet its ongoing operating obligations. In addition, the Company has a
significant amount of short term debt obligations payable between July 1, 2009
and December 31, 2009, including approximately $4,200,000 of term debt and
approximately $3,600,000 of revolving credit lines.  Management is
continuing its efforts to raise additional capital so that the Company can meet
its obligations and sustain operations through the sale of its equity
securities, through offerings of debt securities, or through borrowings from
financial institutions.  We are in discussions with several potential
lenders to refinance the North American revolving credit facility as well as
potential lenders to refinance portions of the term debt of the
Company.  However, there can be no assurance that such activities will
result in refinancing, and if we were able to refinance our indebtedness, such
terms may be less favorable to the Company than the current terms.
  As
previously disclosed, on March 27, 2009, the Company entered into the First
Amendment to Stock and Warrant Purchase Agreement, dated as of March 23, 2009
(the “Amendment”), with Lewis Opportunity Fund LP (“Lewis”) which extended the
closing date of that certain Stock and Warrant Purchase Agreement (the “Purchase
Agreement”) to June 30, 2009.  Under the Purchase Agreement, Lewis
agreed to purchase from the Company, and the Company agreed to sell to Lewis,
2,000,000 shares of the Company’s common stock at a per share purchase of $0.25,
for an aggregate purchase price of $500,000.
  The
Company did not receive the funds by June 30, 2009, and is evaluating the
options for closing the Purchase Agreement.
  OFF-BALANCE
SHEET ARRANGEMENTS
  We have
no significant off-balance sheet arrangements, including derivative instruments
that have or are reasonably likely to have a current or future material effect
on our financial condition, changes in financial condition, revenues or
expenses, results of operations, liquidity, capital expenditures or capital
resources.
  Item 3.
              Quantitative
      and Qualitative Disclosures About Market
Risk.
  Not
required.
  Item 4.
              Controls
      and Procedures.
  Evaluation
of disclosure controls and procedures.
  Our Chief
Executive Officer and Chief Financial Officer have evaluated the effectiveness
of our disclosure controls and procedures as of June 30, 2009. Based on that
evaluation, our Chief Executive Officer and Chief Financial Officer have
concluded that, as of June 30, 2009, our disclosure controls and procedures were
effective in ensuring that the information we are required to disclose in the
reports we file or submit under the Securities Exchange Act of 1934 is recorded,
processed, summarized and reported on a timely basis, and that this information
is accumulated and communicated to management as appropriate to allow timely
decisions regarding required disclosures.
  Changes
in Internal Control Over Financial Reporting
  There was no change in our internal
control over financial reporting during the quarter ended June 30, 2009, that
materially affected, or is reasonably likely to materially affect, our internal
control over financial reporting.
  PART
II: OTHER INFORMATION
  Item 1.
              Legal
      Proceedings.
  From time
to time, we may become involved in litigation relating to claims arising out of
operations in the normal course of business, which we consider routine and
incidental to our business. We currently are not a party to any legal
proceedings, the adverse outcome of which, in management’s opinion, would have a
material adverse effect on our business, results of operation or financial
condition.
  25
  Item 1A.
              Risk
      Factors.
  During
the period covered by this Form 10-Q, there have not been any material changes
from the risk factors previously disclosed in the “Risk Factors” of our annual
report on Form 10-K, for the fiscal year ended December 31, 2008. In
addition to the other information set forth in this report, you should carefully
consider the factors discussed in our annual report on Form 10-K, which could
materially affect our business, financial condition or future results. The risks
described in our annual report on Form 10-K are not the only risks facing the
Company. 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.
  Item 5.
              Other
      Information.
  During
the quarter ended June 30, 2009, we made no material changes to the procedures
by which shareholders may recommend nominees to our Board of Directors, as
described in our most recent proxy statement.
  On July
28, 2009, the Company entered into a Waiver and Amendment (the “Waiver”), dated
as of July 16, 2009, with LV Administrative Services, Inc. (“LV”), Valens U.S.
SPV I, LLC (“Valens”), Valens Offshore SPV I, Ltd. (“Valens Offshore”), Valens
Offshore SPV II, Corp. (“Valens Offshore II”) and PSource Structured Debt
Limited (“PSource”, and collectively with LV, Valens, Valens Offshore and Valens
Offshore II, the “Creditor Parties”), pursuant to which the Creditor Parties
agreed to amend (i) that certain Overadvance Letter, dated March 31, 2008 (the
“Overadvance Letter”), by and between the Company and Laurus, (ii) that certain
Security and Purchase Agreement, dated as of June 28, 2006 (the “Security
Agreement”), by and between the Company and Laurus, (iii) those certain amended
and restated secured term notes, dated as of December 28, 2007 (the “Notes”)
issued by the Company to Laurus and its assignees and (iv) that certain Secured
Non-Convertible Revolving Note, dated as of June 28, 2006 (the “2006 Note”)
issued by the Company to Laurus.
 
 As
previously disclosed, on June 28, 2006, the Company entered into the
Security Agreement with Laurus.  Under the Security Agreement, a
3-year revolving line of credit was established.  The Security
Agreement provided for (i) a revolving line of credit not to exceed $4.0
million and (ii) a security interest in and lien upon all of the Company’s
assets in favor of Laurus.  Under the Security Agreement, the Company
may borrow a total amount at any given time up to $4.0 million, limited to
qualifying receivables and inventories. On March 31, 2008, pursuant to the
Overadvance Letter, Laurus granted the Company the ability to borrow up to
$500,000 over the limit defined by qualified receivables and inventory for one
year, expiring March 31, 2009, which was extended to June 28, 2009. On June 28,
2006, the Company issued the 2006 Note in the aggregate principal amount of $4.0
million, to Laurus to evidence the line of credit and the amounts outstanding
thereunder. The outstanding principal under the 2006 Note accrued interest at an
annual rate of 1% above the prime rate from time to time. All unpaid principal
plus accrued but unpaid interest was due and payable on June 28,
2009.
  Also, as
previously disclosed, on December 28, 2007, the Company issued the Notes to
Laurus and its assignees, pursuant to which the Company borrowed an additional
$1.0 million from Valens. The Notes amended and restated the secured term notes
issued by the Company to Laurus on December 30, 2005 (the “December Note”)
and June 19, 2007 (the “June Note”). The terms of the Note issued to Valens
(the “Valens Note”) were the same as the June Note, except that the principal
amount of the Valens Note consisted of a $1.0 million portion, which was the
amount borrowed by the Company from Valens on December 28, 2007, and a
$764,684 portion, which was the amount owed to Valens prior to December 28,
2007 under the June Note. The $1.0 million portion of the Valens Note accrued
interest at an annual rate of 10.5%. The other Notes amended and restated the
December Note and the June Note and reduced the monthly principal payments of
the Company by $50,000.  The Notes, other than the $1.0 million
portion of the Valens Note, accrued interest at an annual rate of 2% above the
prime rate from time to time (but in no event less than 8%).
  The
Waiver, among other things, (i) extends the Company’s ability to borrow up to
$500,000 over the limit defined by qualified receivables and inventory from June
28, 2009 to October 15, 2009, (ii) extends the maturity date of the 2006 Note
from June 28, 2009 to October 15, 2009, (iii) increases the interest rate on the
2006 Note to an annual rate of 10%, (iv) defers the payment of the monthly
principal amounts due and payable under the Notes for the period commencing on
June 1, 2009 through and including October 1, 2009 to October 15, 2009 and (v)
increases the interest rate on each of the Notes to an annual rate of
12.0%.
  Further,
each Creditor Party waived any events of default that may have occurred under
the Notes, the 2006 Note or the Overadvance Letter on or before the date of the
Waiver that arose due to the Company’s failure to make any payments under the
Notes, the 2006 Note or the Overadvance Letter.
  26
  The
foregoing description is subject to, and qualified in its entirety by, the
Waiver filed as an exhibit hereto and incorporated herein by
reference.
  Item 6.
              Exhibits.
  The
Exhibits listed in the Exhibit Index immediately preceding such Exhibits are
filed with, or incorporated by reference in, this report.
  27
  SIGNATURES
  In
accordance with the requirements of the Securities Exchange Act of 1934, the
Registrant caused this report to be signed on its behalf by the undersigned
thereunto duly authorized.
  STOCKERYALE, INC.Date:
      August 3, 2009
                By:
                /s/Mark W. BlodgettMark
      W. BlodgettPresident,
      Chief Executive Officer and Chairman of the BoardDate:
      August 3, 2009
                By:
                /s/Timothy
      P. LosikTimothy
      P. LosikChief
      Operating Officer and Chief Financial
Officer
  28
  EXHIBIT
INDEX
  Exhibit
                    Number
                  
                  Description10.1
                  
                  Amendment
      to Instrument Constituting Euro 935,000 12% Senior Fixed Rate Secured
      Bond, dated as of June 9, 2009, by and between Mark Hawtin and
      StockerYale (IRL) Ltd.10.2
                  
                  Common
      Stock Purchase Warrant, dated as of June 9, 2009, issued by StockerYale,
      Inc. to Mark Hawtin.10.3
                  
                  Transfer
      Agreement by and among StockerYale (UK) Limited, StockerYale (IRL) Ltd.
      and Mark Hawtin, dated as of June 9, 2009.10.4
                  
                  Waiver
      and Amendment, dated as of July 16, 2009, by and among LV Administrative
      Services, Inc., Valens Offshore SPV I, Ltd., Valens U.S. SPV I, LLC,
      Valens Offshore SPV II, Corp., PSource Structured Debt Limited and
      StockerYale, Inc.31.1
                  
                  Certification
      of Chief Executive Officer pursuant to Section 302 of the
      Sarbanes-Oxley Act of 2002.31.2
                  
                  Certification
      of Chief Financial Officer pursuant to Section 302 of the
      Sarbanes-Oxley Act of 2002.32.1
                  
                  Certification
      of the Chief Executive Officer Pursuant to 18 U.S.C. Section 1350, as
      Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of
      2002.32.2
                  
                  Certification
      of the Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as
      Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of
      2002.
  29